2018 ANNUAL REPORT CONTENTS
1 Company Statements / Branch Locations
3 President’s Message
4 Board of Directors / Executive Officers
5 About Sierra Bancorp
6 About Bank of the Sierra
8 Results of Operations
10 Financial Condition
12 Senior Management Team / Administrative Officers
A copy of the Company’s 2018 Annual Report Form 10-K, including financial
statements but without exhibits filed with the Securities and Exchange
Commission, is enclosed herewith. Quarterly financial reports and other
news releases may also be obtained by visiting: SierraBancorp.com.
2018
2018 ANNUAL REPORT CONTENTS
1 Company Statements / Branch Locations
3 President’s Message
4 Board of Directors / Executive Officers
5 About Sierra Bancorp
6 About Bank of the Sierra
8 Results of Operations
10 Financial Condition
12 Senior Management Team / Administrative Officers
A copy of the Company’s 2018 Annual Report Form 10-K, including financial
statements but without exhibits filed with the Securities and Exchange
Commission, is enclosed herewith. Quarterly financial reports and other
news releases may also be obtained by visiting: SierraBancorp.com.
2018
MISSION
STATEMENT
To be responsible stewards
for our shareholders by
targeting top-quartile
financial returns, while
promoting a culture of
fiscal discipline, ingenuity,
and integrity.
OUR BRAND
PROMISE
We will help make every
community we’re part of better.
7 KEY
STRATEGIES
1. KEEP THINKING
Anticipate and meet needs with
a broad range of solutions.
2. KEEP SERVING
Provide quality service on a timely,
competitive basis.
3. KEEP LEARNING
Be passionate about being the
right person on the team.
4. KEEP GROWING
Encourage creativity and maximize
every opportunity to improve.
5. KEEP GIVING
Serve our communities through
involvement and reinvestment.
6. KEEP STRIVING
Be disciplined; aim for excellence.
7. KEEP SMILING
Enjoy the journey and have fun
along the way.
Fresno
Kings
Tulare
San Luis
Obispo
Santa Barbara
Ventura
Kern
Los Angeles
LOCATIONS
Porterville Main St. | 1978
Fresno Sunnyside | 2008
Porterville West Olive | 1981
Tulare Prosperity | 2009
Lindsay | 1981
Exeter | 1988
Farmersville | 2010
Selma | 2011
Visalia Mooney | 1991
Santa Paula | 2014
Three Rivers | 1994
Fillmore | 2014
Visalia Main St. | 1995
Santa Clarita | 2014
Dinuba | 1997
Tulare | 1998
Hanford | 1998
San Luis Obispo | 2016
Arroyo Grande | 2016
Paso Robles | 2016
Fresno Shaw Ave. | 1999
Sanger | 2016
Bakersfield Ming Ave. | 2000
Atascadero | 2016
Tehachapi F St. | 2000
Tehachapi Old Town | 2000
California City | 2000
Clovis | 2004
Reedley | 2005
Bakersfield Riverlakes | 2006
Delano | 2007
Bakersfield
Mt. Vernon Ave. | 2008
Bakersfield
California Ave | 2017
Pismo Beach | 2017
Santa Barbara | 2017
Ventura | 2017
Ojai | 2017
Woodlake | 2017
Fresno Palm | 2018
Lompoc | 2018
2018 ANNUAL REPORT
1
2018 ANNUAL REPORT CONTENTS
1 Company Statements / Branch Locations
3 President’s Message
4 Board of Directors / Executive Officers
5 About Sierra Bancorp
6 About Bank of the Sierra
8 Results of Operations
10 Financial Condition
12 Senior Management Team / Administrative Officers
A copy of the Company’s 2018 Annual Report Form 10-K, including financial
statements but without exhibits filed with the Securities and Exchange
Commission, is enclosed herewith. Quarterly financial reports and other
news releases may also be obtained by visiting: SierraBancorp.com.
2018
“ Without effort, your talent is nothing more
than your unmet potential. Without effort,
your skill is nothing more than what you
could have done but didn’t.”
– Dr. Angela Duckworth
2
BankoftheSierra.com
President’s Message
Our own personal destiny is determined by each one of us. External forces or innate talent alone
don’t make us who we are – rather our internal perseverance and grit are what truly shapes
our future. An organization is no different. Many companies continue to thrive in very difficult
industries and through varying economic times. It all comes down to the combined efforts of the
team. Bank of the Sierra was founded over four decades ago with the idea that through hard work
and community-focused banking, we would be successful in the long run. This has proven to be
the case in the past, and we believe our future is very bright indeed.
Last year, we were proud to add two more branches! We acquired a branch in the wonderful
community of Lompoc. This area is well-located between Santa Barbara and Santa Maria, with
a strong customer base and excellent core deposits. Also, we opened a new office in the North
Fresno business district, one of the best locations in the Fresno area. With these expansions,
we now have 40 branches in eight counties throughout Central and Coastal California.
2018 was definitely a record-breaking year! Our results for total loans,
assets, and deposits reached new heights. Organic loan growth generated
by our banking teams throughout our markets was impressive. Additionally,
our core deposit base remains one of our strongest drivers of profitability.
Combining these growth numbers with recent tax law changes, our net
income rose $10 million year over year – an increase of 52 percent.
This is truly a testament to the hard work of our entire team.
While we are proud of our results from last year, we remain optimistic about 2019 and beyond.
There is much uncertainty about the coming few years, however, it appears that the economy
may continue its expansion this year and perhaps into the next. Potential headwinds remain due
primarily to political uncertainty and global economics. We have worked to position ourselves
for continued expansion and to keep our asset quality as high as possible. Obstacles may come
our way, but our entire team of bankers is up to the task and will put in the effort to succeed.
We are excited about our future and what opportunities lie ahead!
Sincerely,
Kevin J. McPhaill
2018 ANNUAL REPORT
3
Board of Directors
Morris A. Tharp
Chairman
President & Owner,
E.M. Tharp, Inc.
James C. Holly
Vice Chairman
Retired Banker /
Formerly CEO, Bank
of the Sierra and
Sierra Bancorp
Albert L. Berra
Director
Rancher / Retired
Orthodontist
Vonn Christenson
Director
Partner, Christenson
Law Firm
Laurence S. Dutto
Director
Retired / Formerly
Provost, College
of the Sequoias
Robb Evans
Director
Chairman, Robb Evans
& Associates, LLC
Kevin J. McPhaill
President & CEO
Bank of the Sierra
& Sierra Bancorp
Lynda B. Scearcy
Director
Retired Tax
Professional / Formerly
CPA, McKinley
Scearcy Associates
Gordon T. Woods
Director
Owner & Operator,
Gordon T. Woods
Construction; CEO,
Hydrokleen Systems
Robert L. Fields
Director Emeritus
Retired Jeweler
Executive Officers
“ Leadership is
the capacity
to translate
vision into
reality.”
– Warren Bennis
Kevin J. McPhaill
President & CEO
James F. Gardunio
Executive V.P. & CCO
Michael W. Olague
Executive V.P. & CBO
Kenneth R. Taylor
Executive V.P. & CFO
4
BankoftheSierra.com
About
Sierra
Bancorp
Sierra Bancorp (the “Company”) is a bank holding company
headquartered in Porterville, California. Our common stock
trades on the NASDAQ Global Select Market under the
symbol BSRR. The Company was formed to serve as the
holding company for Bank of the Sierra (the “Bank”), and
has been the Bank’s sole shareholder since August 2001.
References herein to the “Company” include Sierra Bancorp
and its consolidated subsidiary, the Bank, unless the context
indicates otherwise. Sierra Bancorp’s unconsolidated
subsidiaries include Sierra Statutory Trust II, Sierra
Capital Trust III, and Coast Bancorp Statutory Trust II,
which were formed to facilitate the issuance of capital
trust pass-through securities.
2018 ANNUAL REPORT
5
About
Bank of the Sierra
Bank of the Sierra is a California state-chartered bank headquartered in Porterville,
California. We offer a broad range of retail and commercial banking services via
branch offices located throughout the southern half of California’s Central Valley,
the Central Coast, Ventura County, and neighboring communities. The Bank was incorporated
in September 1977, and opened for business in January 1978 as a one-branch bank with
$1.5 million in capital and 11 employees. We have since grown to be the largest bank
headquartered in the South San Joaquin Valley, with 40 full-service branch offices
and $2.5 billion in assets at December 31, 2018.
Our growth has largely been organic, but includes four whole-bank acquisitions: Ojai Community
Bank in 2017, Coast National Bank in 2016, Santa Clara Valley Bank in 2014, and Sierra
National Bank in 2000. Our post-recession branching activity includes the establishment
of the Fresno-Palm branch and the purchase of the Lompoc branch in 2018, opening de novo
branches in Bakersfield and Pismo Beach and the acquisition of the Woodlake branch in 2017,
opening a new branch in Sanger in 2016, the relocation of our Clovis branch in 2012, and the
opening of a de novo branch in the city of Selma in 2011.
In addition to branch offices, the Bank maintains an agricultural credit division, an SBA
lending group, and a mortgage warehouse lending unit. We also provide ATMs at nearly all
branch locations and seven non-branch locations. Moreover, the Bank is a member of the
Allpoint network, which allows our customers surcharge-free access to 43,000 ATMs across
the nation and another 12,000 ATMs in foreign countries. Our customers also have access
to electronic point-of-sale payment alternatives nationwide via the PULSE EFT network.
6
BankoftheSierra.com
Incorporated in
September 1977
500+ employees
40 full-service
branch offices*
To ensure that account access preferences are addressed for
all customers, we provide the following options: an internet branch
that provides the ability to open deposit accounts online; an
online banking option with bill-pay and mobile banking capabilities,
including mobile check deposit; online lending solutions for consumers
and small businesses; a customer service center that is accessible
by toll-free telephone during business hours; and an automated
telephone banking system that is usually accessible 24 hours a
day, seven days a week. We offer a variety of other banking products
and services to complement and support our lending and deposit
products, including remote deposit capture and payroll services
for business customers.
The Bank’s lending activities include real estate, commercial
(including small business), mortgage warehouse, agricultural,
and consumer loans. The bulk of our real estate loans are secured
by commercial, professional, and agricultural properties, but
we also offer commercial construction loans and multifamily
credit facilities among other types of loans. At December 31, 2018,
gross loans exceeded $1.7 billion.
$2.5 billion
in assets**
Our deposit products include checking accounts, savings accounts,
money market demand accounts, time deposits, retirement accounts,
and business sweep accounts. The Bank’s deposit accounts are
insured by the Federal Deposit Insurance Corporation (FDIC) up
to maximum insurable amounts. We attract deposits throughout
our market area via referrals from other customers, diverse
marketing campaigns, a customer-oriented product mix, competitive pricing, and by offering convenient locations,
drive-through banking, and various other delivery channels. We strive to retain our deposit customers by providing a
consistently high level of service. At December 31, 2018, we had 122,500 deposit accounts with balances totaling $2.1
billion. Based on June 30, 2018, FDIC combined market share data for the 31 cities in which the Company maintains
branches, Bank of the Sierra ranks sixth with 4.6% of total deposits. In Tulare County, where the Bank was originally
formed, we rank first for deposit market share with 20.3% of total deposits at June 30, 2018, and have the largest
number of branch locations (13, including our online branch).
In summary, we have successfully transitioned from a small single-unit bank at inception into a multi-branch, regional
operation. Our plans have adapted through the years to accommodate situational changes, take advantage of growth
opportunities, and improve financial performance, with the goal of establishing our position as a top-performing bank.
We feel that our rich history, which includes a strong commitment to our communities and a focus on shareholder
returns, provides a solid foundation for continued expansion. Our depth of experience, healthy capital position, and
access to liquidity resources should enable us to continue to take advantage of new and currently unforeseen
opportunities, to the benefit of the Company’s investors, customers, and staff.
* This number is correct as of 12/31/2018.
** Complete financial information is contained in the Company’s Form 10-K included herewith.
2018 ANNUAL REPORT
7
Results of
Operations*
T he Company recognized net income of $29.677 million in 2018, relative to $19.539 million
in 2017. Net income per diluted share was $1.92 in 2018, as compared to $1.36 in 2017.
The Company’s return on average assets and return on average equity were 1.23%
and 11.37%, respectively, in 2018, as compared to 0.93% and 8.82%, respectively, in 2017.
Our operating results and balance sheet have been materially impacted in recent periods by
whole-bank acquisitions and nonrecurring items, as discussed in greater detail in the applicable
sections below. Furthermore, the Company’s financial performance was favorably affected by
a substantially lower corporate income tax rate starting in 2018, but was negatively impacted in
2017 by a $2.710 million charge to our income tax provision as we revalued our net deferred tax
asset to reflect the lower income tax rate enacted at the end of the year. Excluding the impact
of nonrecurring items, our core financial results have been trending better for the past several
years due in part to a higher volume of loans, a strong base of core deposits, and reductions in
nonperforming assets. The following paragraphs summarize the major factors that impacted
the Company’s results of operations in 2018 and 2017.
Net interest income improved by 22% in 2018 over 2017, due primarily to growth in average
interest-earning assets. The increase in average earning assets was largely organic, resulting
from concerted business development efforts and lending opportunities inherent in expanded
markets. The positive impact of asset growth was enhanced by net interest margin expansion
of 20 basis points, resulting in part from short-term interest rate increases, discount accretion
on acquisition loans, and a favorable shift in our mix of interest-earning assets. Net interest
income has also been impacted by nonrecurring interest items, which added $277,000 to
interest income in 2018 as compared to $736,000 in 2017.
8
BankoftheSierra.com
* Complete financial information is contained in the Company’s Form 10-K included herewith.
We recorded a loan loss provision of $4.350 million in 2018, relative
to a negative provision of $1.140 million in 2017. The 2018 provision
was deemed necessary subsequent to our determination of the
appropriate level for our allowance for loan and lease losses, taking
into consideration overall credit quality, growth in outstanding loan
balances, and reserves required for specifically identified impaired
loan balances (including $2.4 million for a large purchased participation
loan that was placed on non-accrual status in the third quarter).
The provision reversal in 2017 was made possible by principal
recovered on charged-off loan balances.
Noninterest income fell by $215,000, or 1%, in 2018 over 2017, as
gains in deposit service charges, debit card interchange income,
and other fees were offset by lower income from bank-owned life
insurance (“BOLI”) associated with deferred compensation plans,
and a drop in nonrecurring income, including the impact of an
expense amortization adjustment on our tax credit investments
(reflected as an offset to income).
Operating expense increased by $4.583 million, or 7%, in 2018 over
2017. The escalation includes the impact of acquisitions on ongoing
operating costs and a relatively large increase in group health
insurance costs, partially offset by favorable swings of $1.776 million
in nonrecurring acquisition costs, $1.000 million in net foreclosed
asset costs, and $698,000 in directors’ deferred compensation
expense (related to the drop in BOLI income).
The Company recorded income tax provisions of $9.907 million, or
25% of pre-tax income in 2018, and $13.640 million, or 41% of pre-tax
income in 2017. The lower tax rate for 2018 resulted from a reduction
in our federal income tax rate starting in 2018. The relatively high tax
accrual rate for 2017 is primarily the result of the aforementioned
$2.710 million deferred tax asset revaluation charge.
2018 ANNUAL REPORT
9
Income Statement
($000)
2018
Net Interest
Income
Loan Loss
Provision
Non-Interest
Income
Non-Interest
Expense
Net Income
Before Taxes
Provision
for Taxes
$ 92,394
$ 4,350
$ 21,564
$ 70,024
$ 39,584
$ 9,907
Net Income
$ 29,677
Financial
Condition*
T he Company’s assets totaled $2.523 billion at December 31, 2018, relative to $2.340 billion
at December 31, 2017. Total liabilities were $2.249 billion at the end of 2018 compared
to $2.084 billion at the end of 2017, and shareholders’ equity totaled $273 million at
December 31, 2018, relative to $256 million at December 31, 2017. The following paragraphs
highlight key balance sheet changes during 2018.
Total assets increased by $182 million, or 8%, primarily as the result of growth in gross loans
and leases, which were up $174 million, or 11%. Loan growth consisted of strong organic growth in
real estate loans, largely occurring in commercial real estate and construction loans. Mortgage
warehouse loans were down $46 million, or 33%, primarily because of a lower utilization rate on
mortgage warehouse lines, and commercial and consumer loan balances also declined.
Deposit balances reflect net growth of $128 million, or 6%, for 2018, including deposits in our
acquired Lompoc branch totaling about $34 million at the reporting date, and the addition of
$50 million in wholesale brokered deposits. Core non-maturity deposits fell by close to $8 million,
as a time deposit promotion in the fourth quarter resulted in some internal cannibalization of
money market deposits in particular, which were down by $48 million, or 28%. Customer time
deposits increased by $86 million, or 23%, during 2018, due in large part to the promotion.
10
BankoftheSierra.com
* Complete financial information is contained in the Company’s Form 10-K included herewith.
Balance Sheet ($000)
2018
Net Loans
$ 1,724,780
Investment
Securities
Intangible
Assets
$ 560,479
$
33,812
Total Assets
$ 2,522,502
Deposits
$ 2,116,340
Other Liabilities
$
133,138
Total
Shareholders’
Equity
Shares
Outstanding
$ 273,024
15,300,460
“ The secret of success is
to do the common thing
uncommonly well.”
– John D. Rockefeller Jr.
Total capital increased by $17 million, or 7%, ending the year with
a balance of $273 million. The increase in capital in 2018 is due to
capital from stock options exercised and the addition of net income,
net of dividends paid, and a $4.3 million increase in our accumulated
other comprehensive loss. While the Company’s regulatory capital
ratios have been trending down over the past few years as a result
of the acquisitions and organic loan growth, they are still relatively
strong. At December 31, 2018 our consolidated Common Equity Tier
One Capital Ratio was 12.61%, our Tier One Risk-Based Capital Ratio
was 14.38%, our Total Risk-Based Capital Ratio was 14.89%, and our
Tier One Leverage Ratio was 11.49%.
2018 ANNUAL REPORT
11
SENIOR
MANAGEMENT
TEAM
(includes executive officers)
MARKET PRESIDENTS
Kelli Blackburn | Market President
Pismo Beach, Atascadero, Paso Robles, San Luis Obispo
& Arroyo Grande Service Area
Cyndi Carmichael
Senior V.P. /
Risk Manager
Mona M. Carr
Senior V.P. / Director
of Bank Operations
Cindy L. Dabney
Senior V.P. /
Controller
Matthew P.
Hessler
Senior V.P. / Director
of Marketing
Jake Soerens
Senior V.P. /
Director of IT
Deanna Spitzer
Senior V.P. /
Director of Human
Resources
Thomas
Yamaguchi
Senior V.P. /
Treasurer
Janice Castle | Market President
Porterville & Lindsay Service Area
Bruce Hamlin | Market President
Tehachapi & California City Service Area
Rasmus Jensen | Market President
Bakersfield & Delano Service Area
Dustin Oliver | Market President
Fresno, Clovis & Sanger Service Area
Mike Orman | Market President
Ventura, Santa Barbara, Santa Paula, Fillmore, Ojai, Oxnard
& Santa Clarita Service Area
David Soares | Market President
Visalia, Exeter, Farmersville & Three Rivers Service Area
Roy Salazar | Market President
Tulare Service Area
Mark Ulibarri | Market President
Hanford, Selma, Dinuba & Reedley Service Area
AG CREDIT CENTER
Harroll Wiley | Ag Credit President
86 North Main Street | Porterville, CA 93257
559.782.4900
MORTGAGE WAREHOUSE
LENDING CENTER
Dustin Oliver | Market President
7391 North Palm Avenue, Suite 101 | Fresno, CA 93711
1.888.454.BANK
SBA LOAN CENTER
Kelli Blackburn | Market President
500 Marsh Street | San Luis Obispo, CA 93401
1.888.454.BANK
CORPORATE OFFICES
Alexandra Blazar | Corporate Secretary
86 North Main Street | Porterville, CA 93257
559.782.4900 | Info@BankoftheSierra.com
BankoftheSierra.com | SierraBancorp.com
12
BankoftheSierra.com
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2018
Commission file number: 000-33063
SIERRA BANCORP
(Exact name of registrant as specified in its charter)
California
(State of incorporation)
86 North Main Street, Porterville, California
(Address of principal executive offices)
33-0937517
(I.R.S. Employer Identification No.)
93257
(Zip Code)
(559) 782-4900
Registrant’s telephone number, including area code
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Common Stock, No Par Value
Name of each exchange on which registered
The NASDAQ Stock Market LLC (NASDAQ Global Select Market)
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. ☐ Yes ☒ No
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. ☐ Yes ☒ No
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days.
☒ Yes ☐ No
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule
405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).
☒ Yes ☐ No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company,
or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging
growth company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer ☐
Accelerated filer ☒
Non-accelerated filer ☐ Smaller reporting company ☐
Emerging growth company ☐
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with
any new or revised financial accounting standards pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). ☐ Yes ☒ No
As of June 29, 2018, the last business day of the registrant’s most recently completed second fiscal quarter, the aggregate market value of the voting
stock held by non-affiliates of the registrant was approximately $395 million, based on the closing price reported to the registrant on that date of $28.24
per share. Shares of Common Stock held by each officer and director and each person or control group owning more than ten percent of the outstanding
Common Stock have been excluded in that such persons may be deemed to be affiliates. This determination of affiliate status is not necessarily a
conclusive determination for other purposes.
The number of shares of common stock of the registrant outstanding as of March 1, 2019 was 15,321,630.
Documents Incorporated by Reference: Portions of the definitive proxy statement for the 2019 Annual Meeting of Shareholders to be filed with
the Securities and Exchange Commission pursuant to SEC Regulation 14A are incorporated by reference in Part III, Items 10-14.
TABLE OF CONTENTS
ITEM
PAGE
PART I ..................................................................................................................................................................
Item 1. Business ...............................................................................................................................
Item 1A. Risk Factors .........................................................................................................................
Item 1B. Unresolved Staff Comments................................................................................................
Item 2. Properties .............................................................................................................................
Item 3. Legal Proceedings................................................................................................................
Item 4. Mine Safety Disclosures ......................................................................................................
PART II.................................................................................................................................................................
Item 5. Market for Registrant’s Common Equity, Related Shareholder Matters and Issuer
Purchases of Equity Securities........................................................................................
Item 6. Selected Financial Data .......................................................................................................
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of
Operations .......................................................................................................................
Item 7A. Quantitative and Qualitative Disclosures about Market Risk..............................................
Item 8. Financial Statements and Supplementary Data ...................................................................
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial
Disclosure .......................................................................................................................
Item 9A. Controls and Procedures ......................................................................................................
Item 9B. Other Information ................................................................................................................
PART III ...............................................................................................................................................................
Item 10. Directors, Executive Officers and Corporate Governance ..................................................
Item 11. Executive Compensation .....................................................................................................
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related
Shareholder Matters ........................................................................................................
Item 13. Certain Relationships and Related Transactions and Director Independence .....................
Item 14. Principal Accounting Fees and Services..............................................................................
PART IV ...............................................................................................................................................................
Item 15. Exhibits and Financial Statement Schedules .......................................................................
Item 16. Form 10-K Summary ...........................................................................................................
SIGNATURES......................................................................................................................................................
1
1
13
23
23
23
23
24
24
26
28
56
56
120
120
121
121
121
121
121
122
122
123
123
124
125
PART I
ITEM 1. BUSINESS
General
The Company
Sierra Bancorp (the “Company”) is a California corporation headquartered in Porterville, California, and is a regis-
tered bank holding company under federal banking laws. The Company was formed to serve as the holding compa-
ny for Bank of the Sierra (the “Bank”), and has been the Bank’s sole shareholder since August 2001. The Company
exists primarily for the purpose of holding the stock of the Bank and of such other subsidiaries it may acquire or
establish. As of December 31, 2018, the Company’s only other subsidiaries were Sierra Statutory Trust II, Sierra
Capital Trust III, and Coast Bancorp Statutory Trust II, which were formed solely to facilitate the issuance of capital
trust pass-through securities (“TRUPS”). Pursuant to the Financial Accounting Standards Board (“FASB”) standard
on the consolidation of variable interest entities, these trusts are not reflected on a consolidated basis in the financial
statements of the Company. References herein to the “Company” include Sierra Bancorp and its consolidated sub-
sidiary, the Bank, unless the context indicates otherwise. At December 31, 2018, the Company had consolidated
assets of $2.523 billion (including gross loans of $1.732 billion), liabilities totaling $2.249 billion (including deposits
of $2.116 billion), and shareholders’ equity of $273 million. The Company’s liabilities include $35 million in debt
obligations due to its trust subsidiaries, related to TRUPS issued by those entities.
The Bank
Bank of the Sierra, a California state-chartered bank headquartered in Porterville, California, offers a wide range of
retail and commercial banking services via branch offices located throughout California’s South San Joaquin Valley,
the Central Coast, Ventura County, and neighboring communities. The Bank was incorporated in September 1977,
and opened for business in January 1978 as a one-branch bank with $1.5 million in capital. Our growth in the ensuing
years has largely been organic in nature, but includes four whole-bank acquisitions: Sierra National Bank in 2000,
Santa Clara Valley Bank in 2014, Coast National Bank in 2016, and Ojai Community Bank in October 2017. See the
Recent Developments section below for details on our latest acquisitions.
There are not currently any plans for additional branches, but our post-recession branching activity includes the
establishment of the Fresno-Palm branch and the purchase of the Lompoc branch in 2018, opening de novo branches
in Bakersfield and Pismo Beach and the acquisition of the Woodlake branch in 2017, opening a new branch in Sanger
in 2016, the relocation of our Clovis branch to a superior location in 2012, and the opening of a de novo branch in the
City of Selma in 2011. With our latest acquisitions and branching activity, the Bank now maintains administrative
offices and operates 40 full-service branches in the following California locations:
Porterville:
Administrative Headquarters
86 North Main Street
Main Office
90 North Main Street
West Olive Branch
1498 West Olive Avenue
Arroyo Grande:
Arroyo Grande Office
1360 East Grand Avenue
Atascadero:
Bakersfield:
Atascadero Office
7315 El Camino Real
Bakersfield California Office
4456 California Ave
Bakersfield Riverlakes Office
4060 Coffee Road
Bakersfield Ming Office
8500 Ming Avenue
Bakersfield East Hills Office
2501 Mt. Vernon Avenue
California City:
California City Office
8031 California City Blvd.
1
Clovis:
Delano:
Dinuba:
Exeter:
Clovis Office
1835 East Shaw Avenue
Delano Office
1126 Main Street
Dinuba Office
401 East Tulare Street
Exeter Office
1103 West Visalia Road
Farmersville:
Farmersville Office
400 West Visalia Road
Fillmore:
Fresno:
Hanford:
Lindsay:
Lompoc:
Ojai:
Paso Robles:
Pismo Beach:
Reedley:
San Luis
Obispo:
Sanger:
Fillmore Office
527 Sespe Avenue
Fresno Palm Office
7391 North Palm Avenue
Fresno Shaw Office
636 East Shaw Avenue
Fresno Sunnyside Office
5775 E. Kings Canyon Rd.
Hanford Office
427 West Lacey Boulevard
Lindsay Office
142 South Mirage Avenue
Lompoc Office
705 West Central Avenue
Ojai Office
402 West Ojai Avenue
Paso Robles Office
1207 Spring Street
Pismo Beach Office
1401 Dolliver Street
Reedley Office
1095 West Manning Ave.
San Luis Obispo Office
500 Marsh Street
Sanger Office
1500 7th Street
Santa Barbara:
Santa Barbara Office
21 East Carrillo Street
Santa Clarita:
Santa Paula:
Santa Clarita Office
26328 Citrus Street
Santa Paula Office
901 East Main Street
2
Selma:
Tehachapi:
Selma Office
2450 McCall Avenue
Tehachapi Downtown Office
224 West “F” Street
Tehachapi Old Town Office
21000 Mission Street
Three Rivers:
Three Rivers Office
40884 Sierra Drive
Tulare:
Ventura:
Visalia:
Tulare Office
246 East Tulare Avenue
Tulare Prosperity Office
1430 East Prosperity Avenue
Ventura Office
89 South California Street
Visalia Mooney Office
2515 South Mooney Blvd.
Visalia Downtown Office
128 East Main Street
Woodlake:
Woodlake Office
232 N. Valencia Boulevard
Complementing the Bank’s stand-alone offices are specialized lending units which include our agricultural credit
center and an SBA lending division. We also have ATMs at all branch locations and seven non-branch locations.
Furthermore, the Bank is a member of the Allpoint network, which provides our deposit customers with surcharge-
free access to over 43,000 ATMs across the nation and another 12,000 ATMs in foreign countries, and customers have
access to electronic point-of-sale payment alternatives nationwide via the Pulse network. To ensure that account
access preferences are addressed for all customers, we provide the following options: an internet branch which pro-
vides the ability to open deposit accounts online; an online banking option with bill-pay and mobile banking
capabilities, including mobile check deposit; online lending solutions for consumers and small businesses; a customer
service center that is accessible by toll-free telephone during business hours; and an automated telephone banking
system that is usually accessible 24 hours a day, seven days a week. We offer a variety of other banking products and
services to complement and support our lending and deposit products, including remote deposit capture and payroll
services for business customers.
Our chief products and services relate to extending loans and accepting deposits. Our lending activities cover real
estate, commercial (including small business), mortgage warehouse, agricultural, and consumer loans. The bulk of
our real estate loans are secured by commercial, professional office and agricultural properties, but we also offer
commercial construction loans and multifamily credit facilities among other types of loans. As noted above, gross
loans totaled $1.732 billion at December 31, 2018, and the percentage of our total loan and lease portfolio for each of
the principal types of credit we extend was as follows: (i) loans secured by real estate (84.0%); (ii) agricultural
production loans (2.8%); (iii) commercial and industrial loans and leases (including SBA loans and direct finance
leases) (7.4%); (iv) mortgage warehouse loans (5.3%); and (v) consumer loans (0.5%). Interest, fees, and other income
on real-estate secured loans, which is by far the largest segment of our portfolio, totaled $73.0 million, or 64% of net
interest plus other income in 2018, and $53.3 million, or 55% of net interest plus other income in 2017.
In addition to loans, we offer a wide range of deposit products and services for individuals and businesses including
checking accounts, savings accounts, money market demand accounts, time deposits, retirement accounts, and sweep
accounts. The Bank’s deposit accounts are insured by the Federal Deposit Insurance Corporation (the “FDIC”) up to
maximum insurable amounts. We attract deposits throughout our market area via referrals from other customers,
direct-mail campaigns, a customer-oriented product mix, and competitive pricing, and by offering convenient
locations, drive-through banking, and various other delivery channels. We strive to retain our deposit customers by
providing a consistently high level of service. At December 31, 2018, the consolidated Company had 122,500 deposit
accounts totaling $2.116 billion, compared to 118,700 deposit accounts totaling $1.988 billion at December 31, 2017.
We have not engaged in any material research activities related to the development of new products or services dur-
ing the last two fiscal years. However, our officers and employees are continually searching for ways to increase
public convenience, enhance customer access to payment systems, and enable us to improve our competitive position.
3
The cost to the Bank for these development, operations, and marketing activities cannot be calculated with any degree
of certainty. We hold no patents or licenses (other than licenses required by bank regulatory agencies), franchises, or
concessions. Our business has a modest seasonal component due to the heavy agricultural orientation of the Central
Valley, but as our branch network has expanded to include more metropolitan areas we have become less reliant on
the agriculture-related base. We are not dependent on a single customer or group of related customers for a material
portion of our core deposits, but our time deposit balances at December 31, 2018 include $120 million in deposits
from the State of California, comprising 6% of total deposits. Furthermore, for loans we have what could be consid-
ered to be concentrations in loans to the dairy industry (8% of total loans), and the hotel industry (9% of total loans).
Our efforts to comply with government and regulatory mandates on consumer protection and privacy, anti-terrorism,
and other initiatives have resulted in significant ongoing expense to the Bank, including compliance staffing costs and
other expenses associated with compliance-related software. However, as far as can be determined there has been no
material effect upon our capital expenditures, earnings, or competitive position as a result of environmental regulation
at the Federal, state, or local level. The Company is not involved with chemicals or toxins that might have an adverse
effect on the environment, thus its primary exposure to environmental legislation is through lending activities. The
Company’s lending procedures include steps to identify and monitor this exposure in an effort to avoid any related
loss or liability.
Recent Developments
On May 18, 2018, the Company purchased most of the deposits of the Lompoc branch of Community Bank of Santa
Maria, located in Santa Barbara County. The purchase also included the Lompoc branch building, the real property
on which the building is located, and certain other equipment and fixed assets at their aggregate fair value of $1.7
million. The Lompoc branch is now operating as a full-service branch of Bank of the Sierra. Lompoc branch deposits
totaled $38 million at the time of purchase, consisting of $32 million in non-maturity deposits and $6 million in time
deposits. In accordance with GAAP, the Company recorded a $1.169 million deposit purchase premium in connection
with the transaction and is amortizing that amount on a straight line basis over eight years.
On November 3, 2017 the Company acquired the Woodlake branch of Citizen’s Business Bank. Woodlake branch
deposits totaled approximately $27 million at the acquisition date, consisting largely of non-maturity deposits. The
acquisition also included the purchase of the Woodlake branch building, the real property on which the building is
located, and certain other equipment and fixed assets at their aggregate fair value of $500,000. In accordance with
GAAP, the Company recorded $625,000 of goodwill and a $486,000 core deposit intangible in connection with the
transaction. The core deposit intangible is being amortized on a straight line basis over eight years.
On October 1, 2017, the Company acquired 100% of the outstanding common shares of Ojai Community Bancorp,
parent company to Ojai Community Bank (collectively referred to herein as “Ojai”), in exchange for $809,000 in cash
and 1,376,431 shares of Sierra Bancorp stock. Immediately thereafter, Ojai Community Bank was merged into Bank
of the Sierra. At the time of the acquisition, the fair value of Ojai’s loans and deposits totaled $218 million and $231
million, respectively. In accordance with GAAP, the Company also recorded $18.5 million of goodwill and a $3.5
million core deposit intangible in connection with the transaction. The core deposit intangible is being amortized on
a straight line basis over eight years. The conversion of Ojai’s core banking system to Bank of the Sierra’s core system
took place on November 3, 2017.
Recent Accounting Pronouncements
Information on recent accounting pronouncements is contained in Note 2 to the consolidated financial statements.
Competition
The banking business in California is generally highly competitive, including in our market areas. Continued con-
solidation within the banking industry has heightened competition in recent periods, following on the heels of a rela-
tively large number of FDIC-assisted takeovers of failed banks and other acquisitions of troubled financial institutions
in the aftermath of the Great Recession. There are also a number of unregulated companies competing for business
in our markets, with financial products targeted at profitable customer segments. Many of those companies are able
to compete across geographic boundaries and provide meaningful alternatives to banking products and services. These
competitive trends are likely to continue.
4
With respect to commercial bank competitors, our business is dominated by a relatively small number of major banks
that operate a large number of offices within our geographic footprint. Based on June 30, 2018 FDIC combined
market share data for the 31 cities within which the Company currently maintains branches, the largest portion of
deposits belongs to Wells Fargo Bank with 21.1% of total combined deposits, followed by Bank of America (18.8%),
JPMorgan Chase (10.9%), Union Bank (8.5%), and Rabobank (5.6%). Bank of the Sierra ranks sixth on the 2018
market share list with 4.6% of total deposits. In Tulare County, however, where the Bank was originally formed, we
rank first for deposit market share with 20.3% of total deposits at June 30, 2018, and had the largest number of branch
locations (13, including our online branch). The larger banks noted above have, among other advantages, the ability
to finance wide-ranging advertising campaigns and allocate their resources to regions of highest yield and demand.
They can also offer certain services that we do not provide directly but may offer indirectly through correspondent
institutions, and by virtue of their greater capitalization those banks have legal lending limits that are substantially
higher than ours. For loan customers whose needs exceed our legal lending limits, we typically arrange for the sale,
or participation, of some of the balances to financial institutions that are not within our geographic footprint.
In addition to other banks our competitors include savings institutions, credit unions, and numerous non-banking
institutions such as finance companies, leasing companies, insurance companies, brokerage firms, asset management
groups, mortgage banking firms and internet companies. Innovative technologies have lowered traditional barriers of
entry and enabled many of these companies to offer services that were previously considered traditional banking
products, and we have witnessed increased competition from companies that circumvent the banking system by
facilitating payments via the internet, mobile devices, prepaid cards, and other means.
Strong competition for deposits and loans among financial institutions and non-banks alike affects interest rates and
terms on which financial products are offered to customers. Mergers between financial institutions have created
additional pressures within the financial services industry to streamline operations, reduce expenses, and increase
revenues in order to remain competitive. Competition is also impacted by federal and state interstate banking laws
which permit banking organizations to expand into other states. The relatively large California market has been
particularly attractive to out-of-state institutions.
For years we have countered rising competition by offering a broad array of products with flexibility in structure and
terms that cannot always be matched by our competitors. We also offer our customers community-oriented, person-
alized service, and rely on local promotional activity and personal contact by our employees. As noted above, layered
onto our traditional personal-contact banking philosophy are technology-driven initiatives that improve customer
access and convenience.
Employees
As of December 31, 2018 the Company had 468 full-time and 88 part-time employees. On a full-time equivalent basis
staffing stood at 541 at December 31, 2018, down from 556 at December 31, 2017.
Regulation and Supervision
Banks and bank holding companies are heavily regulated by federal and state laws and regulations. Most banking
regulations are intended primarily for the protection of depositors and the deposit insurance fund and not for the benefit
of shareholders. The following is a summary of certain statutes, regulations and regulatory guidance affecting the
Company and the Bank. This summary is not intended to be a complete explanation of such statutes, regulations and
guidance, all of which are subject to change in the future, nor does it fully address their effects and potential effects
on the Company and the Bank.
Regulation of the Company Generally
The Company is a legal entity separate and distinct from the Bank and its other subsidiaries. As a bank holding
company, the Company is regulated under the Bank Holding Company Act of 1956 (the “BHC Act”), and is subject
to supervision, regulation and inspection by the Federal Reserve Board. The Company is also subject to certain pro-
visions of the California Financial Code which are applicable to bank holding companies. In addition, the Company
is under the jurisdiction of the SEC and is subject to the disclosure and regulatory requirements of the Securities Act
5
of 1933 and the Securities Exchange Act of 1934, each administered by the SEC. The Company’s common stock is
listed on the NASDAQ Global Select market (“NASDAQ”) with “BSRR” as its trading symbol, and the Company is
subject to the rules of NASDAQ for listed companies.
The Company is a bank holding company within the meaning of the BHC Act and is registered as such with the
Federal Reserve Board. A bank holding company is required to file annual reports and other information with the
Federal Reserve regarding its business operations and those of its subsidiaries. In general, the BHC Act limits the
business of bank holding companies to banking, managing or controlling banks and other activities that the Federal
Reserve has determined to be so closely related to banking as to be a proper incident thereto, including securities
brokerage services, investment advisory services, fiduciary services, and management advisory and data processing
services, among others. A bank holding company that also qualifies as and elects to become a “financial holding
company” may engage in a broader range of activities that are financial in nature or complementary to a financial
activity (as determined by the Federal Reserve or Treasury regulations), such as securities underwriting and dealing,
insurance underwriting and agency, and making merchant banking investments. The Company has not elected to
become a financial holding company but may do so at some point in the future if deemed appropriate in view of
opportunities or circumstances at the time.
The BHC Act requires the prior approval of the FRB for the direct or indirect acquisition of more than five percent of
the voting shares of a commercial bank or its parent holding company. Acquisitions by the Bank are subject instead
to the Bank Merger Act, which requires the prior approval of an acquiring bank’s primary federal regulator for any
merger with or acquisition of another bank. Acquisitions by both the Company and the Bank also require the prior
approval of the California Department of Business Oversight (the “DBO”) pursuant to the California Financial Code.
The Company and the Bank are deemed to be “affiliates” of each other and thus are subject to Sections 23A and 23B
of the Federal Reserve Act as well as related Federal Reserve Regulation W which impose both quantitative and qual-
itative restrictions and limitations on transactions between affiliates. The Bank is also subject to laws and regulations
requiring that all extensions of credit to our executive officers, directors, principal shareholders and related parties
must, among other things, be made on substantially the same terms and follow credit underwriting procedures no less
stringent than those prevailing at the time for comparable transactions with persons not related to the Bank.
Under certain conditions, the Federal Reserve has the authority to restrict the payment of cash dividends by a bank
holding company as an unsafe and unsound banking practice, and may require a bank holding company to obtain the
approval of the Federal Reserve prior to purchasing or redeeming its own equity securities. The Federal Reserve also
has the authority to regulate the debt of bank holding companies.
A bank holding company is required to act as a source of financial and managerial strength for its subsidiary banks
and must commit resources as necessary to support such subsidiaries. The Federal Reserve may require a bank holding
company to contribute additional capital to an undercapitalized subsidiary bank and may disapprove of the holding
company’s payment of dividends to the shareholders in such circumstances.
Regulation of the Bank Generally
As a state chartered bank, the Bank is subject to broad federal regulation and oversight extending to all its operations
by the FDIC and to state regulation by the DBO. The Bank is also subject to certain regulations of the Federal Reserve
Board.
Capital Adequacy Requirements
The Company and the Bank are subject to the regulations of the Federal Reserve Board and the FDIC, respectively,
governing capital adequacy. These agencies have adopted risk-based capital guidelines to provide a systematic ana-
lytical framework that imposes regulatory capital requirements based on differences in risk profiles among banking
organizations, considers off-balance sheet exposures in evaluating capital adequacy, and minimizes disincentives to
holding liquid, low-risk assets. Capital levels, as measured by these standards, are also used to categorize financial
institutions for purposes of certain prompt corrective action regulatory provisions.
6
Pursuant to the adoption of final rules implementing the Basel Committee on Banking Supervision’s capital guide-
lines for all U.S. banks and bank holding companies with more than $500 million in assets, minimum regulatory
requirements for both the quantity and quality of capital held by the Company and the Bank increased effective January
1, 2015. Furthermore, a capital class known as Common Equity Tier 1 capital was established in addition to Tier 1
capital and Tier 2 capital, and most financial institutions were given the option of a one-time election to continue to
exclude accumulated other comprehensive income (“AOCI”) from regulatory capital. The Company has exercised its
option to exclude AOCI from regulatory capital. The final rules also increased capital requirements for certain
categories of assets, including higher-risk construction and real estate loans, certain past-due or nonaccrual loans, and
certain exposures related to securitizations. The final rules permanently grandfather non-qualifying capital
instruments (such as trust preferred securities and cumulative perpetual preferred stock) issued before May 19, 2010
for inclusion in the Tier 1 capital of banking organizations with total consolidated assets of less than $15 billion at
December 31, 2009, subject to a limit of 25% of Tier 1 capital. All of the Company’s trust preferred securities were
issued prior to that date and continue to qualify as Tier 1 capital.
Our Common Equity Tier 1 capital includes common stock, additional paid-in capital, and retained earnings, less the
following: disallowed goodwill and intangibles, disallowed deferred tax assets, and any insufficient additional capital
to cover the deductions. Tier 1 capital is generally defined as the sum of core capital elements, less the following:
goodwill and other intangible assets, accumulated other comprehensive income, disallowed deferred tax assets, and
certain other deductions. The following items are defined as core capital elements: (i) common shareholders’ equity;
(ii) qualifying non-cumulative perpetual preferred stock and related surplus (and, in the case of holding companies,
senior perpetual preferred stock issued to the U.S. Treasury Department pursuant to the Troubled Asset Relief
Program); (iii) minority interests in the equity accounts of consolidated subsidiaries; and (iv) “restricted” core capital
elements (which include qualifying trust preferred securities) up to 25% of all core capital elements. Tier 2 capital
includes the following supplemental capital elements: (i) allowance for loan and lease losses (but not more than 1.25%
of an institution’s risk-weighted assets); (ii) perpetual preferred stock and related surplus not qualifying as core capital;
(iii) hybrid capital instruments, perpetual debt and mandatory convertible debt instruments; and, (iv) term subordi-
nated debt and intermediate-term preferred stock and related surplus. The maximum amount of Tier 2 capital is capped
at 100% of Tier 1 capital.
The final rules established a regulatory minimum of 4.5% for common equity Tier 1 capital to total risk weighted
assets (“Common Equity Tier 1 RBC Ratio”), a minimum of 6.0% for Tier 1 capital to total risk weighted assets (“Tier
1 Risk-Based Capital Ratio” or “Tier 1 RBC Ratio”), a minimum of 8.0% for qualifying Tier 1 plus Tier 2 capital to
total risk weighted assets (“Total Risk-Based Capital Ratio” or “Total RBC Ratio”), and a minimum of 4.0% for the
Leverage Ratio, which is defined as Tier 1 capital to adjusted average assets (quarterly average assets less the
disallowed capital items noted above). In addition to the other minimum risk-based capital standards, the final rules
also require a Common Equity Tier 1 capital conservation buffer which was phased in over three years. The capital
conservation buffer was 0.625% for 2016, 1.25% for 2017, and 1.875% for 2018, and it became fully phased in at
2.5% of risk-weighted assets beginning on January 1, 2019. Effective January 1, 2019, the buffer effectively raises
the minimum required Common Equity Tier 1 RBC Ratio to 7.0%, the Tier 1 RBC Ratio to 8.5%, and the Total RBC
Ratio to 10.5%. Institutions that do not maintain the required capital buffer will become subject to progressively more
stringent limitations on the percentage of earnings that can be paid out in dividends or used for stock repurchases, and
on the payment of discretionary bonuses to executive management.
Based on our capital levels at December 31, 2018 and 2017, the Company and the Bank would have met all capital
adequacy requirements under the Basel III Capital Rules on a fully phased-in basis. For more information on the
Company’s capital, see Part II, Item 7, Management’s Discussion and Analysis of Financial Condition and Results of
Operation – Capital Resources. Risk-based capital ratio (“RBC”) requirements are discussed in greater detail in the
following section.
Prompt Corrective Action Provisions
Federal law requires each federal banking agency to take prompt corrective action to resolve the problems of insured
financial institutions, including but not limited to those that fall below one or more of the prescribed minimum capi-
tal ratios. The federal banking agencies have by regulation defined the following five capital categories: “well capi-
talized” (Total RBC Ratio of 10%; Tier 1 RBC Ratio of 8%; Common Equity Tier 1 RBC Ratio of 6.5%; and Lever-
age Ratio of 5%); “adequately capitalized” (Total RBC Ratio of 8%; Tier 1 RBC Ratio of 6%; Common Equity Tier
7
1 RBC Ratio of 4.5%; and Leverage Ratio of 4%); “undercapitalized” (Total RBC Ratio of less than 8%; Tier 1 RBC
Ratio of less than 6%; Common Equity Tier 1 RBC Ratio of less than 4.5%; or Leverage Ratio of less than 4%);
“significantly undercapitalized” (Total RBC Ratio of less than 6%; Tier 1 RBC Ratio of less than 4%; Common Equity
Tier 1 RBC Ratio of less than 3%; or Leverage Ratio less than 3%); and “critically undercapitalized” (tangible equity
to total assets less than or equal to 2%). A bank may be treated as though it were in the next lower capital category if,
after notice and the opportunity for a hearing, the appropriate federal agency finds an unsafe or unsound condition or
practice merits a downgrade, but no bank may be treated as “critically undercapitalized” unless its actual tangible
equity to assets ratio warrants such treatment. As of December 31, 2018 and 2017, both the Company and the Bank
qualified as well capitalized for regulatory capital purposes.
At each successively lower capital category, an insured bank is subject to increased restrictions on its operations. For
example, a bank is generally prohibited from paying management fees to any controlling persons or from making
capital distributions if to do so would cause the bank to be “undercapitalized.” Asset growth and branching restrictions
apply to undercapitalized banks, which are required to submit written capital restoration plans meeting specified re-
quirements (including a guarantee by the parent holding company, if any). “Significantly undercapitalized” banks are
subject to broad regulatory authority, including among other things capital directives, forced mergers, restrictions on
the rates of interest they may pay on deposits, restrictions on asset growth and activities, and prohibitions on paying
bonuses or increasing compensation to senior executive officers without FDIC approval. Even more severe
restrictions apply to “critically undercapitalized” banks. Most importantly, except under limited circumstances, not
later than 90 days after an insured bank becomes critically undercapitalized the appropriate federal banking agency is
required to appoint a conservator or receiver for the bank.
In addition to measures taken under the prompt corrective action provisions, insured banks may be subject to poten-
tial actions by the federal regulators for unsafe or unsound practices in conducting their businesses or for violations
of any law, rule, regulation or any condition imposed in writing by the agency or any written agreement with the
agency. Enforcement actions may include the issuance of cease and desist orders, termination of insurance on depo-
sits (in the case of a bank), the imposition of civil money penalties, the issuance of directives to increase capital, formal
and informal agreements, or removal and prohibition orders against “institution-affiliated” parties.
Safety and Soundness Standards
The federal banking agencies have also adopted guidelines establishing safety and soundness standards for all insured
depository institutions. Those guidelines relate to internal controls, information systems, internal audit systems, loan
underwriting and documentation, compensation, and liquidity and interest rate exposure. In general, the standards are
designed to assist the federal banking agencies in identifying and addressing problems at insured depository institu-
tions before capital becomes impaired. If an institution fails to meet the requisite standards, the appropriate federal
banking agency may require the institution to submit a compliance plan and could institute enforcement proceedings
if an acceptable compliance plan is not submitted or followed.
The Dodd-Frank Wall Street Reform and Consumer Protection Act
Legislation and regulations enacted and implemented since 2008 in response to the U.S. economic downturn and
financial industry instability continue to impact most institutions in the banking sector. Certain provisions of the
Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”), which was enacted in 2010, are now
effective and have been fully implemented, including revisions to the deposit insurance assessment base for FDIC
insurance and a permanent increase in coverage to $250,000; the permissibility of paying interest on business check-
ing accounts; the removal of barriers to interstate branching; and, required disclosures and shareholder advisory votes
on executive compensation. Additional actions taken to implement Dodd-Frank provisions include (i) final capital
rules, (ii) a final rule to implement the so called Volcker rule restrictions on certain proprietary trading and investment
activities, and (iii) final rules and increased enforcement action by the Consumer Finance Protection Bureau (discussed
further below in connection with consumer protection).
Some aspects of Dodd-Frank are still subject to rulemaking, making it difficult to anticipate the ultimate financial
impact on the Company, its customers or the financial services industry more generally. However, many provisions
of Dodd-Frank are already affecting our operations and expenses, including but not limited to changes in FDIC
assessments, the permitted payment of interest on demand deposits, and enhanced compliance requirements. Some
8
of the rules and regulations promulgated or yet to be promulgated under Dodd-Frank will apply directly only to
institutions much larger than ours, but could indirectly impact smaller banks, either due to competitive influences or
because certain required practices for larger institutions may subsequently become expected “best practices” for
smaller institutions. We could see continued attention and resources devoted by the Company to ensure compliance
with the statutory and regulatory requirements engendered by Dodd-Frank.
Tax Cuts and Jobs Act
On December 22, 2017, the Tax Cuts and Jobs Act (the “Act”) was signed into law. The Act made significant changes
that impact corporate taxation, including the reduction of the maximum federal income tax rate for corporations from
35% to 21% and changes or limitations to certain tax deductions. The reduced tax rate had a favorable impact on our
tax expense beginning in 2018, as our blended marginal income tax rate dropped to 29.56% in 2018 from 42.05% in
2017. The tax rate reduction also resulted in an adjustment to our deferred tax assets and liabilities to reflect their
value to the Company at the lower federal tax rate of 21%, with such revaluation required in the period in which the
legislation was enacted. Subsequent to a detailed analysis of our deferred tax assets and liabilities we reduced our net
deferred tax asset by $2.710 million via a charge to our income tax provision in December 2017.
Deposit Insurance
The Bank’s deposits are insured up to maximum applicable limits under the Federal Deposit Insurance Act, and the
Bank is subject to deposit insurance assessments to maintain the FDIC’s Deposit Insurance Fund (the “DIF”). In
October 2010, the FDIC adopted a revised restoration plan to ensure that the DIF’s designated reserve ratio (“DRR”)
reaches 1.35% of insured deposits by September 30, 2020, the deadline mandated by the Dodd-Frank Act. In August
2016 the FDIC announced that the DIF reserve ratio had surpassed 1.15% as of June 30, 2016 and assessment rates
for most institutions were adjusted downward, but institutions with $10 billion or more in assets were assessed a
quarterly surcharge which will continue until the reserve ratio reaches the statutory minimum of 1.35%. Furthermore,
the restoration plan proposed an increase in the DRR to 2% of estimated insured deposits as a long-term goal for the
fund. On September 30, 2018, the DIF ratio reached 1.36 percent. Because the ratio exceeded 1.35 percent, two
deposit insurance assessment changes occurred under FDIC regulations: surcharges on large banks (total consolidated
assets of $10 billion or more) ended, with the last surcharge on large banks being collected on December 28, 2018;
and, banks with total consolidated assets of less than $10 billion were awarded credits for the portion of their
assessments that contributed to the growth in the reserve ratio from 1.15 percent to 1.35 percent, to be applied when
the reserve ratio is at least 1.38 percent. Bank of the Sierra is eligible for such credits, which could reduce our FDIC
assessments in future periods.
As noted above, the Dodd-Frank Act provided for a permanent increase in FDIC deposit insurance per depositor from
$100,000 to $250,000 retroactive to January 1, 2008. Furthermore, effective in the second quarter of 2011, FDIC
deposit insurance premium assessment rates were adjusted, and the assessment base was established as an institution’s
total assets less tangible equity. We are generally unable to control the amount of premiums that we are required to
pay for FDIC deposit insurance. If there are additional bank or financial institution failures or if the FDIC otherwise
determines, we may be required to pay higher FDIC premiums, which could have a material adverse effect on our
earnings and/or on the value of, or market for, our common stock.
In addition to DIF assessments, banks have been required to pay quarterly assessments that are applied to the retire-
ment of Financing Corporation bonds issued in the 1980’s to assist in the recovery of the savings and loan industry.
The assessment amount fluctuates, but was 0.32 basis points of insured deposits for the fourth quarter of 2018. The
Financing Corporation bonds mature in September 2019, and a final assessment of 0.14 basis points of insured deposits
is projected for March 2019.
Community Reinvestment Act
The Bank is subject to certain requirements and reporting obligations involving Community Reinvestment Act
(“CRA”) activities. The CRA generally requires federal banking agencies to evaluate the record of a financial insti-
tution in meeting the credit needs of its local communities, including low and moderate income neighborhoods. The
CRA further requires the agencies to consider a financial institution’s efforts in meeting its community credit needs
when evaluating applications for, among other things, domestic branches, mergers or acquisitions, or the formation of
9
holding companies. In measuring a bank’s compliance with its CRA obligations, the regulators utilize a performance-
based evaluation system under which CRA ratings are determined by the bank’s actual lending, service, and
investment performance, rather than on the extent to which the institution conducts needs assessments, documents
community outreach activities or complies with other procedural requirements. In connection with its assessment of
CRA performance, the FDIC assigns a rating of “outstanding,” “satisfactory,” “needs to improve” or “substantial
noncompliance.” The Bank most recently received a satisfactory CRA assessment rating in January 2019.
Privacy and Data Security
The Gramm-Leach-Bliley Act, also known as the Financial Modernization Act of 1999 (the “Financial Moderniza-
tion Act”), imposed requirements on financial institutions with respect to consumer privacy. Financial institutions,
however, are required to comply with state law if it is more protective of consumer privacy than the Financial Mod-
ernization Act. The Financial Modernization Act generally prohibits disclosure of consumer information to non-
affiliated third parties unless the consumer has been given the opportunity to object and has not objected to such
disclosure. The statute also directed federal regulators, including the Federal Reserve and the FDIC, to establish stan-
dards for the security of consumer information, and requires financial institutions to disclose their privacy policies to
consumers annually.
Overdrafts
The Electronic Funds Transfer Act, as implemented by the Federal Reserve’s Regulation E, governs transfers initi-
ated through automated teller machines (“ATMs”), point-of-sale terminals, and other electronic banking services.
Regulation E prohibits financial institutions from assessing an overdraft fee for paying ATM and one-time point-of-
sale debit card transactions, unless the customer affirmatively opts in to the overdraft service for those types of transac-
tions. The opt-in provision establishes requirements for clear disclosure of fees and terms of overdraft services for
ATM and one-time debit card transactions. The rule does not apply to other types of transactions, such as check,
automated clearinghouse (“ACH”) and recurring debit card transactions. Additionally, in November 2010 the FDIC
issued its Overdraft Guidance on automated overdraft service programs, to ensure that a bank mitigates the risks asso-
ciated with offering automated overdraft payment programs and complies with all consumer protection laws and
regulations.
Consumer Financial Protection and Financial Privacy
Dodd-Frank created the Consumer Finance Protection Bureau (the “CFPB”) as an independent entity with broad rule-
making, supervisory and enforcement authority over consumer financial products and services including deposit
products, residential mortgages, home-equity loans and credit cards. The CFPB’s functions include investigating con-
sumer complaints, conducting market research, rulemaking, supervising and examining bank consumer transactions,
and enforcing rules related to consumer financial products and services. CFPB regulations and guidance apply to all
financial institutions, including the Bank, although only banks with $10 billion or more in assets are subject to exami-
nation by the CFPB. Banks with less than $10 billion in assets, including the Bank, are examined for compliance by
their primary federal banking agency.
In January 2013, the CFPB issued final regulations governing consumer mortgage lending. Certain rules which
became effective in January 2014 impose additional requirements on lenders, including the directive that lenders need
to ensure the ability of their borrowers to repay mortgages. The CFPB also finalized a rule on escrow accounts for
higher priced mortgage loans and a rule expanding the scope of the high-cost mortgage provision in the Truth in
Lending Act. The CFPB also issued final rules implementing provisions of the Dodd-Frank Act that relate to mort-
gage servicing. In November 2013 the CFPB issued a final rule on integrated and simplified mortgage disclosures
under the Truth in Lending Act and the Real Estate Settlement Procedures Act, which became effective in October
2015.
The CFPB has broad rulemaking authority for a wide range of consumer financial laws that apply to all banks,
including, among other things, the authority to prohibit “unfair, deceptive or abusive” acts and practices. Abusive
acts or practices are defined as those that materially interfere with a consumer’s ability to understand a term or con-
dition of a consumer financial product or service or take unreasonable advantage of a consumer’s: (i) lack of finan-
10
cial savvy, (ii) inability to protect himself in the selection or use of consumer financial products or services, or (iii)
reasonable reliance on a covered entity to act in the consumer’s interests.
The Bank continues to be subject to numerous other federal and state consumer protection laws that extensively govern
its relationship with its customers. Those laws include the Equal Credit Opportunity Act, the Fair Credit Reporting
Act, the Truth in Lending Act, the Truth in Savings Act, the Electronic Fund Transfer Act, the Expedited Funds Avail-
ability Act, the Home Mortgage Disclosure Act, the Fair Housing Act, the Real Estate Settlement Procedures Act, the
Fair Debt Collection Practices Act, the Right to Financial Privacy Act, the Service Members Civil Relief Act, and
respective state-law counterparts to these laws, as well as state usury laws and laws regarding unfair and deceptive
acts and practices. These and other laws require disclosures including the cost of credit and terms of deposit accounts,
provide substantive consumer rights, prohibit discrimination in credit transactions, regulate the use of credit report
information, provide financial privacy protections, prohibit unfair, deceptive and abusive practices, restrict the
Company’s ability to raise interest rates and otherwise subject the Company to substantial regulatory oversight.
In addition, as is the case with all financial institutions, the Bank is required to maintain the privacy of its customers’
non-public, personal information. Such privacy requirements direct financial institutions to: (i) provide notice to
customers regarding privacy policies and practices; (ii) inform customers regarding the conditions under which their
non-public personal information may be disclosed to non-affiliated third parties; and (iii) give customers an option to
prevent disclosure of such information to non-affiliated third parties.
Identity Theft
Under the Fair and Accurate Credit Transactions Act (the “FACT Act”), the Bank is required to develop and imple-
ment a written Identity Theft Prevention Program to detect, prevent and mitigate identity theft “red flags” in connec-
tion with certain existing accounts or the opening of certain accounts. Under the FACT Act, the Bank is required to
adopt reasonable policies and procedures to (i) identify relevant red flags for covered accounts and incorporate those
red flags into the program; (ii) detect red flags that have been incorporated into the program; (iii) respond appropri-
ately to any red flags that are detected to prevent and mitigate identity theft; and (iv) ensure the program is updated
periodically, to reflect changes in risks to customers or to the safety and soundness of the financial institution or
creditor from identity theft. The Bank maintains a program to meet the requirements of the FACT Act and the Bank
believes it is currently in compliance with these requirements.
Interstate Banking and Branching
The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 (the “Interstate Act”), together with Dodd-
Frank, relaxed prior interstate branching restrictions under federal law by permitting, subject to regulatory approval,
state and federally chartered commercial banks to establish branches in states where the laws permit banks chartered
in such states to establish branches. The Interstate Act requires regulators to consult with community organizations
before permitting an interstate institution to close a branch in a low-income area. Federal banking agency regulations
prohibit banks from using their interstate branches primarily for deposit production and the federal banking agencies
have implemented a loan-to-deposit ratio screen to ensure compliance with this prohibition. Dodd-Frank effectively
eliminated the prohibition under California law against interstate branching through de novo establishment of
California branches. Interstate branches are subject to certain laws of the states in which they are located. The Bank
presently does not have any interstate branches.
USA Patriot Act of 2001
The impact of the USA Patriot Act of 2001 (the “Patriot Act”) on financial institutions of all kinds has been signifi-
cant and wide ranging. The Patriot Act substantially enhanced anti-money laundering and financial transparency laws,
and required certain regulatory authorities to adopt rules that promote cooperation among financial institutions,
regulators, and law enforcement entities in identifying parties that may be involved in terrorism or money laundering.
Under the Patriot Act, financial institutions are subject to prohibitions regarding specified financial transactions and
account relationships, as well as enhanced due diligence and “know your customer” standards in their dealings with
foreign financial institutions and foreign customers. The Patriot Act also requires all financial institutions to establish
anti-money laundering programs. The Bank expanded its Bank Secrecy Act compliance staff and intensified due
diligence procedures concerning the opening of new accounts to fulfill the anti-money laundering requirements of the
11
Patriot Act, and also implemented systems and procedures to identify suspicious banking activity and report any such
activity to the Financial Crimes Enforcement Network.
Incentive Compensation
In June 2010, the FRB and the FDIC issued comprehensive final guidance on incentive compensation policies intended
to help ensure that banking organizations do not undermine their own safety and soundness by encouraging excessive
risk-taking. The guidance, which covers all employees who have the ability to materially affect the risk profile of an
organization, either individually or as part of a group, is based upon the key principles that incentive compensation
arrangements should (i) provide incentives that do not encourage risk-taking beyond the organization’s ability to effec-
tively identify and manage risks, (ii) be compatible with effective internal controls and risk management, and (iii) be
supported by strong corporate governance, including active and effective oversight by the organization's board of
directors. The regulatory agencies will review, as part of their regular risk-focused examination process, the incentive
compensation arrangements of banking organizations, such as the Company, that are not “large, complex banking
organizations.” Where appropriate, the regulatory agencies will take supervisory or enforcement action to address
perceived deficiencies in an institution’s incentive compensation arrangements or related risk-management, control,
and governance processes. The Company believes that it is in full compliance with the regulatory guidance on
incentive compensation policies.
Sarbanes-Oxley Act of 2002
The Company is subject to the Sarbanes-Oxley Act of 2002 (“Sarbanes-Oxley”) which addresses, among other issues,
corporate governance, auditing and accounting, executive compensation, and enhanced and timely disclosure of cor-
porate information. Among other things, Sarbanes-Oxley mandates chief executive and chief financial officer certifi-
cations of periodic financial reports, additional financial disclosures concerning off-balance sheet items, and accele-
rated share transaction reporting for executive officers, directors and 10% shareholders. In addition, Sarbanes-Oxley
increased penalties for non-compliance with the Exchange Act. SEC rules promulgated pursuant to Sarbanes-Oxley
impose obligations and restrictions on auditors and audit committees intended to enhance their independence from
Management, and include extensive additional disclosure, corporate governance and other related rules.
Commercial Real Estate Lending Concentrations
As a part of their regulatory oversight, the federal regulators have issued guidelines on sound risk management prac-
tices with respect to a financial institution’s concentrations in commercial real estate (“CRE”) lending activities. These
guidelines were issued in response to the agencies’ concerns that rising CRE concentrations might expose institutions
to unanticipated earnings and capital volatility in the event of adverse changes in the commercial real estate market.
The guidelines identify certain concentration levels that, if exceeded, will expose the institution to additional supervi-
sory analysis with regard to the institution’s CRE concentration risk. The guidelines are designed to promote appro-
priate levels of capital and sound loan and risk management practices for institutions with a concentration of CRE
loans. In general, the guidelines establish the following supervisory criteria as preliminary indications of possible
CRE concentration risk: (1) the institution’s total construction, land development and other land loans represent 100%
or more of total risk-based capital; or (2) total CRE loans as defined in the regulatory guidelines represent 300% or
more of total risk-based capital, and the institution’s CRE loan portfolio has increased by 50% or more during the
prior 36 month period. The Bank believes that the guidelines are applicable to it, as it has a relatively high concen-
tration in CRE loans. The Bank and its board of directors have discussed the guidelines and believe that the Bank’s
underwriting policies, management information systems, independent credit administration process, and monitoring
of real estate loan concentrations are sufficient to address the guidelines.
Other Pending and Proposed Legislation
Other legislative and regulatory initiatives which could affect the Company, the Bank and the banking industry in
general are pending, and additional initiatives may be proposed or introduced before the United States Congress, the
California legislature and other governmental bodies in the future. Such proposals, if enacted, may further alter the
structure, regulation and competitive relationship among financial institutions, and may subject the Bank to increased
regulation, disclosure and reporting requirements. In addition, the various banking regulatory agencies often adopt
new rules and regulations to implement and enforce existing legislation. It cannot be predicted whether, or in what
12
form, any such legislation or regulations may be enacted or the extent to which the business of the Company or the
Bank would be affected thereby.
ITEM 1A. RISK FACTORS
You should carefully consider the following risk factors and all other information contained in this Annual Report
before making investment decisions concerning the Company’s common stock. The risks and uncertainties described
below are not the only ones the Company faces. Additional risks and uncertainties not presently known to the Com-
pany, or that the Company currently believes are immaterial, may also adversely impact the Company’s business. If
any of the events described in the following risk factors occur, the Company’s business, results of operations and
financial condition could be materially adversely affected. In addition, the trading price of the Company’s common
stock could decline due to any of the events described in these risks.
Risks Relating to the Bank and to the Business of Banking in General
Our business has been and may in the future be adversely affected by volatile conditions in the financial mar-
kets and unfavorable economic conditions generally. National and global economies are constantly in flux, as
evidenced by market volatility both recently and in years past. Future economic conditions cannot be predicted, and
recurrent deterioration in the economies of the nation as a whole or in the Company’s markets could have an adverse
effect, which could be material, on our business, financial condition, results of operations and future prospects, and
could cause the market price of the Company’s stock to decline.
From December 2007 through June 2009, the U.S. economy was officially in recession. Business activity across a
wide range of industries and regions in the U.S. was greatly reduced during and after the recession. The U.S. econ-
omy has undergone a continued and gradual expansion since 2009, but financial stress on borrowers as a result of an
uncertain future economic environment could still have an unfavorable effect on the ability of the Company’s bor-
rowers to repay their loans, which could adversely affect the Company’s business, financial condition and results of
operations.
California’s San Joaquin Valley, where the Company is headquartered and has many of its branch locations, was
particularly hard hit by the most recent adverse economic cycle. Unemployment levels have historically been ele-
vated in the San Joaquin Valley, including Tulare County which is our geographic center, but recessionary conditions
pushed unemployment rates to exceptionally high levels. The unemployment rate for Tulare County reached a high
of 19.3% in March 2010. It reflects a steady downward trend since 2010 and had declined to 9.6% by December
2018, but is still well above the 4.2% aggregate unemployment rate reported for California in December 2018. In
addition, as discussed below in connection with challenges to the agricultural industry, the persistence of a California
drought could have a significant negative impact on unemployment rates in our market areas. Furthermore, a drop in
oil prices like the decline experienced in recent years could also negatively impact unemployment rates, particularly
in Kern County.
Economic conditions are currently stable or improving in most of our local markets, and the real estate sector also
appears to be reasonably stable. However, any adverse developments could depress business and/or consumer con-
fidence levels, negatively impact real estate values, and otherwise lead to economic weakness which could have one
or more of the following undesirable effects on our business:
•
•
•
•
•
a lack of demand for loans, or other products and services offered by us;
a decline in the value of our loans or other assets secured by real estate;
a decrease in deposit balances due to increased pressure on the liquidity of our customers;
an impairment of our investment securities; or
an increase in the number of borrowers who become delinquent, file for protection under bankruptcy
laws or default on their loans or other obligations to us, which in turn could result in higher levels of
nonperforming assets, net charge-offs and provisions for credit losses.
13
Challenges in the agricultural industry could have an adverse effect on our customers and their ability to make
payments to us, particularly in view of recent drought conditions in California and disruptions involving
international trade. While the Company’s nonperforming assets are currently comprised mainly of other real estate
owned (“OREO”) and loans secured by non-agricultural real estate, difficulties experienced by the agricultural
industry have led to relatively high levels of nonperforming assets in previous economic cycles. This is due to the
fact that a considerable portion of our borrowers are involved in, or are impacted to some extent by, the agricultural
industry. While a great number of our borrowers are not directly involved in agriculture, they would likely be impacted
by difficulties in the agricultural industry since many jobs in our market areas are ancillary to the regular production,
processing, marketing and sale of agricultural commodities.
The markets for agricultural products can be adversely impacted by increased supply from overseas competition, a
drop in consumer demand, tariffs and numerous other factors. In recent periods in particular, retaliatory tariffs levied
by certain countries in response to tariffs imposed by the US Government on imports from those countries have created
a high degree uncertainty and disruption in the agricultural community in California, due to the level of goods that are
exported. The ripple effect of any resulting drop in commodity prices could lower borrower income and depress
collateral values. Weather patterns are also of critical importance to row crop, tree fruit, and citrus production. A
degenerative cycle of weather has the potential to adversely affect agricultural industries as well as consumer
purchasing power, and could lead to higher unemployment throughout the San Joaquin Valley. The state of California
has recently experienced the worst drought in recorded history, and it is difficult to predict if the drought will resume
and how long it might last. Another looming issue that could have a major impact on the agricultural industry involves
water availability and distribution rights. If the amount of water available to agriculture becomes increasingly scarce
as a result of diversion to other uses, farmers may not be able to continue to produce agricultural products at a
reasonable profit, which has the potential to force many out of business. Such conditions have affected and may
continue to adversely affect our borrowers and, by extension, our business, and if general agricultural conditions
decline our level of nonperforming assets could increase.
Another significant drop in oil prices could have an adverse impact on our customers and their ability to make
payments to us, particularly in areas such as Kern County where oil production is a key economic driver. As
we have experienced in the past, a drop in oil prices could lead to declines in property values and property taxes,
particularly in Kern County, which is home to about three quarters of California’s oil production. The Company does
not have direct exposure to oil producers, and our exposure via loans outstanding to borrowers involved in servicing
oil companies totaled only $14 million at December 31, 2018. However, if cash flows are disrupted for our energy-
related borrowers, or if other borrowers are indirectly impacted and/or non-oil property values decline, our level of
nonperforming assets and loan charge-offs could increase. Furthermore, economic multipliers to a contracting oil
industry include the prospects of a depressed residential housing market and a drop in commercial real estate values.
Concentrations of real estate loans have negatively impacted our performance in the past, and could subject us
to further risks in the event of another real estate recession or natural disaster. Our loan portfolio is heavily
concentrated in real estate loans, particularly commercial real estate. At December 31, 2018, 84% of our loan port-
folio consisted of real estate loans, and a sizeable portion of the remaining loan portfolio had real estate collateral as
a secondary source of repayment or as an abundance of caution. Loans on commercial buildings represented
approximately 51% of all real estate loans, while construction/development and land loans were 15%, loans secured
by residential properties accounted for 24%, and loans secured by farmland were 10% of real estate loans. The
Company’s $6.2 million balance of nonperforming assets at December 31, 2018 includes nonperforming real estate
loans totaling $3.6 million, and $1.1 million in OREO.
The residential real estate market experienced significant deflation in property values during 2008 and 2009, and
foreclosures occurred at relatively high rates during and after the recession. While residential real estate values in our
market areas seem to have stabilized, if they were to slide again, or if commercial real estate values were to decline
materially, the Company could experience additional migration into nonperforming assets. An increase in
nonperforming assets could have a material adverse effect on our financial condition and results of operations by
reducing our income and increasing our expenses. Deterioration in real estate values might also further reduce the
amount of loans the Company makes to businesses in the construction and real estate industry, which could negatively
impact our organic growth prospects. Similarly, the occurrence of more natural disasters like those California has
experienced recently, including fires, flooding, and earthquakes, could impair the value of the collateral we hold for
real estate secured loans and negatively impact our results of operations.
14
Moreover, banking regulators give commercial real estate loans extremely close scrutiny due to risks relating to the
cyclical nature of the real estate market and risks for lenders with high concentrations of such loans. The regulators
have required banks with relatively high levels of CRE loans to implement enhanced underwriting standards, internal
controls, risk management policies and portfolio stress testing, which has resulted in higher allowances for possible
loan losses. Expectations for higher capital levels have also emerged. Any required increase in our allowance for
loan losses could adversely affect our net income, and any requirement that we maintain higher capital levels could
adversely impact financial performance measures including earnings per share and return on equity.
Our concentration of commercial real estate, construction and land development, and commercial and indus-
trial loans exposes us to increased lending risks. Commercial and agricultural real estate, commercial construction
and land development, and commercial and industrial loans and leases (including agricultural production loans but
excluding mortgage warehouse loans), which comprised approximately 68% of our total loan portfolio as of December
31, 2018, expose the Company to a greater risk of loss than residential real estate and consumer loans, which were a
smaller percentage of the total loan portfolio. Commercial real estate and land development loans typically involve
relatively large balances to a borrower or a group of related borrowers, and an adverse development with respect to a
larger commercial loan relationship would expose us to greater risk of loss than would issues involving a smaller resi-
dential mortgage loan or consumer loan.
Repayment of our commercial loans is often dependent on the cash flows of the borrowers, which may be un-
predictable, and the collateral securing these loans may fluctuate in value. At December 31, 2018, we had $177
million, or 10% of total loans, in commercial loans and leases (including agricultural production loans but excluding
mortgage warehouse loans). Commercial lending involves risks that are different from those associated with real
estate lending. Real estate lending is generally considered to be collateral based lending with loan amounts based on
predetermined loan to collateral values, and liquidation of the underlying real estate collateral being viewed as the
primary source of repayment in the event of borrower default. Our commercial loans are primarily extended based on
the cash flows of the borrowers, and secondarily on any underlying collateral provided by the borrowers. A bor-
rower’s cash flows may be unpredictable, and collateral securing those loans may fluctuate in value. Although
commercial loans are often collateralized by equipment, inventory, accounts receivable, or other business assets, the
liquidation of such collateral in the event of default is often an insufficient source of repayment for a number of
reasons, including uncollectible accounts receivable and obsolete or special-purpose inventories among others.
Nonperforming assets adversely affect our results of operations and financial condition, and can take signifi-
cant time to resolve. Our nonperforming loans may return to elevated levels, which would negatively impact
earnings, possibly in a material way depending on the severity. We do not record interest income on non-accrual
loans, thereby adversely affecting income levels. Furthermore, when we receive collateral through foreclosures and
similar proceedings we are required to record the collateral at its fair market value less estimated selling costs, which
may result in charges against our allowance for loan losses if that value is less than the book value of the related loan.
Additionally, our non-interest expense has risen materially in adverse economic cycles due to the costs of reappraising
adversely classified assets, write-downs on foreclosed assets resulting from declining property values, operating costs
related to foreclosed assets, legal and other costs associated with loan collections, and various other expenses that
would not typically be incurred in a normal operating environment. A relatively high level of nonperforming assets
also increases our risk profile and may impact the capital levels our regulators believe is appropriate in light of such
risks. We have utilized various techniques such as loan sales, workouts and restructurings to manage our problem
assets. Deterioration in the value of these problem assets, the underlying collateral, or in the borrowers’ performance
or financial condition, could adversely affect our business, results of operations and financial condition. In addition,
the resolution of nonperforming assets requires a significant commitment of time from Management and staff, which
can be detrimental to their performance of other responsibilities. There can be no assurance that we will avoid
increases in nonperforming loans in the future.
We may experience loan and lease losses in excess of our allowance for such losses. We endeavor to limit the risk
that borrowers might fail to repay; nevertheless, losses can and do occur. We have established an allowance for
estimated loan and lease losses in our accounting records based on:
•
•
historical experience with our loans;
our evaluation of economic conditions;
15
•
•
•
•
regular reviews of the quality, mix and size of the overall loan portfolio;
a detailed cash flow analysis for nonperforming loans;
regular reviews of delinquencies; and
the quality of the collateral underlying our loans.
At any given date, we maintain an allowance for loan and lease losses that we believe is adequate to absorb specifi-
cally identified probable losses as well as any other losses inherent in our loan portfolio as of that date. While we
strive to carefully monitor credit quality and to identify loans that may become nonperforming, at any given time there
may be loans in our portfolio that could result in losses but have not been identified as nonperforming or potential
problem loans. We cannot be sure that we will identify deteriorating loans before they become nonperforming assets,
or that we will be able to limit losses on loans that have been so identified. Changes in economic, operating and other
conditions which are beyond our control, including interest rate fluctuations, deteriorating collateral values, and
changes in the financial condition of borrowers may lead to an increase in our estimate of probable losses, or could
cause actual loan losses to exceed our current allowance. In addition, the FDIC and the DBO, as part of their
supervisory functions, periodically review our allowance for loan and lease losses. Such agencies may require us to
increase our provision for loan and lease losses or to recognize further losses based on their judgment, which may be
different from that of our Management. Any such increase in the allowance required by regulators could also hurt our
business.
Our use of appraisals in deciding whether to make a loan on or secured by real property does not ensure the
value of the collateral. In considering whether to make a loan secured by real property, we generally require an
appraisal of the property. However, an appraisal is only an estimate of the value of the property at the time the
appraisal is made, and an error in fact or judgment could adversely affect the reliability of the appraisal. In addition,
events occurring after the initial appraisal may cause the value of the real estate to decrease. As a result of any of
these factors the value of the collateral backing a loan may be less than supposed, and if a default occurs we may not
recover the entire outstanding balance of the loan via the liquidation of such collateral.
Our expenses could increase as a result of increases in FDIC insurance premiums or other regulatory assess-
ments. The FDIC charges insured financial institutions a premium to maintain the DIF at a certain level. In the event
that deteriorating economic conditions increase bank failures, the FDIC ensures payments of deposits up to insured
limits from the DIF. Although the Bank's FDIC insurance assessments have not increased as a result of changes in
recent periods, and could possibly even be reduced in the near term, there can be no assurance that the FDIC will not
increase assessment rates in the future or that the Bank will not be subject to higher assessment rates as a result of a
change in its risk category, either of which could have an adverse effect on the Bank’s earnings.
We may not be able to continue to attract and retain banking customers, and our efforts to compete may reduce
our profitability. The banking business in our market areas is highly competitive with respect to virtually all products
and services, which may limit our ability to attract and retain banking customers. In California generally, and in our
service areas specifically, major banks dominate the commercial banking industry. Such banks have substantially
greater lending limits than we have, offer certain services we cannot offer directly, and often operate with economies
of scale that result in relatively low operating costs. We also compete with numerous financial and quasi-financial
institutions for deposits and loans, including providers of financial services via the internet. Recent advances in
technology and other changes have allowed parties to effectuate financial transactions that previously required the
involvement of banks. For example, consumers can maintain funds in brokerage accounts or mutual funds that would
have historically been held as bank deposits. Consumers can also complete transactions such as paying bills and
transferring funds directly without the assistance of banks. The process of eliminating banks as intermediaries, known
as disintermediation, could result in the loss of customer deposits and the fee income generated by those deposits. The
loss of these revenue streams and access to lower cost deposits as a source of funds could have a material adverse
effect on our financial condition and results of operations.
Moreover, with the large number of bank failures in the past decade some customers have become more concerned
about the extent to which their deposits are insured by the FDIC. Customers may withdraw deposits in an effort to
ensure that the amount they have on deposit with their bank is fully insured. Decreases in deposits may adversely
affect our funding costs and net income. Ultimately, competition can and does increase our cost of funds, reduce loan
16
yields and drive down our net interest margin, thereby reducing profitability. It can also make it more difficult for us
to continue to increase the size of our loan portfolio and deposit base, and could cause us to rely more heavily on
wholesale borrowings which are generally more expensive than retail deposits.
If we are not able to successfully keep pace with technological changes in the industry, our business could be
hurt. The financial services industry is constantly undergoing technological change, with the frequent introduction
of new technology-driven products and services. The effective use of technology increases efficiency and enables
financial institutions to better serve clients and reduce costs. Our future success depends, in part, upon our ability to
respond to the needs of our clients by using technology to provide desired products and services and create additional
operating efficiencies. Some of our competitors have substantially greater resources to invest in technological
improvements. We may not be able to effectively implement new technology-driven products and services or be
successful in marketing these products and services to our clients. Failure to keep pace with technological change in
the financial services industry could have a material adverse impact on our business and, in turn, on our financial
condition and results of operations.
Unauthorized disclosure of sensitive or confidential customer information, whether through a cyber-attack,
other breach of our computer systems or any other means, could severely harm our business. In the normal
course of business we collect, process and retain sensitive and confidential customer information. Despite the secu-
rity measures we have in place, our facilities and systems may be vulnerable to cyber-attacks, security breaches, acts
of vandalism, computer viruses, misplaced or lost data, programming and/or human errors, or other similar events.
In recent periods there has been a rise in fraudulent electronic activity, security breaches, and cyber-attacks, includ-
ing in the banking sector. Some financial institutions have reported breaches of their websites and systems which
have involved sophisticated and targeted attacks intended to misappropriate sensitive or confidential information,
destroy or corrupt data, disable or degrade service, disrupt operations and/or sabotage systems. These breaches can
remain undetected for an extended period of time. Furthermore, our customers and employees have been, and will
continue to be, targeted by parties using fraudulent e-mails and other communications that may appear to be legiti-
mate messages sent by the Bank, in attempts to misappropriate passwords, card numbers, bank account information
or other personal information or to introduce viruses or malware to personal computers. Information security risks
for financial institutions have increased in part because of new technologies, mobile services and other web-based
products used to conduct financial and other business transactions, as well as the increased sophistication and activi-
ties of organized crime, perpetrators of fraud, hackers, terrorists and others. The secure maintenance and transmis-
sion of confidential information, as well as the secure and reliable execution of transactions over our systems, are
essential to protect us and our customers and to maintain our customers’ confidence. Despite our efforts to identify,
contain and mitigate these threats through detection and response mechanisms, product improvement, the use of
encryption and authentication technology, and customer and employee education, such attempted fraudulent activities
directed against us, our customers, and third party service providers remain a serious issue. The pervasiveness of
cyber security incidents in general and the risks of cyber-crime are complex and continue to evolve.
We also face risks related to cyber-attacks and other security breaches in connection with debit card transactions,
which typically involve the transmission of sensitive information regarding our customers through various third
parties. Some of these parties have in the past been the target of security breaches and cyber-attacks, and because the
transactions involve third parties and environments that we do not control or secure, future security breaches or cyber-
attacks affecting any of these third parties could impact us through no fault of our own, and in some cases we may
have exposure and suffer losses for breaches or attacks relating to them. We also rely on third party service providers
to conduct certain other aspects of our business operations, and face similar risks relating to them. While we require
regular security assessments from those third parties, we cannot be sure that their information security protocols are
sufficient to withstand a cyber-attack or security breach.
Any cyber-attack or other security breach involving the misappropriation or loss of Company assets or those of its
customers, or unauthorized disclosure of confidential customer information, could severely damage our reputation,
erode confidence in the security of our systems, products and services, expose us to the risk of litigation and liability,
disrupt our operations, and have a material adverse effect on our business.
If our information systems were to experience a system failure, our business and reputation could suffer. We
rely heavily on communications and information systems to conduct our business. The computer systems and net-
17
work infrastructure we use could be vulnerable to unforeseen problems. Our operations are dependent upon our ability
to minimize service disruptions by protecting our computer equipment, systems, and network infrastructure from
physical damage due to fire, power loss, telecommunications failure or a similar catastrophic event. We have
protective measures in place to prevent or limit the effect of the failure or interruption of our information systems, and
will continue to upgrade our security technology and update procedures to help prevent such events. However, if such
failures or interruptions were to occur, they could result in damage to our reputation, a loss of customers, increased
regulatory scrutiny, or possible exposure to financial liability, any of which could have a material adverse effect on
our financial condition and results of operations.
We are subject to a variety of operational risks, including reputational risk, legal risk, compliance risk, the risk
of fraud or theft by employees or outsiders, and the risk of clerical or record-keeping errors, which may
adversely affect our business and results of operations. If personal, non-public, confidential or proprietary cus-
tomer information in our possession were to be mishandled or misused, we could suffer significant regulatory con-
sequences, reputational damage and financial loss. This could occur, for example, if information was erroneously
provided to parties who are not permitted to have the information, either by fault of our systems, employees, or
counterparties, or where such information is intercepted or otherwise inappropriately taken by third parties.
Because the nature of the financial services business involves a high volume of transactions, certain errors may be
repeated or compounded before they are discovered and successfully remediated. Our necessary dependence upon
automated systems to record and process transactions and our large transaction volume may further increase the risk
that technical flaws or employee tampering or manipulation of those systems could result in losses that are difficult to
detect. We also may be subject to disruptions of our operating systems arising from events that are wholly or partially
beyond our control (for example, computer viruses or electrical or telecommunications outages, or natural disasters,
disease pandemics or other damage to property or physical assets) which may give rise to disruption of service to
customers and to financial loss or liability. We are further exposed to the risk that our external vendors may be unable
to fulfill their contractual obligations (or will be subject to the same risk of fraud or operational errors by their
employees) and to the risk that our (or our vendors’) business continuity and data security efforts might prove to be
inadequate. The occurrence of any of these risks could result in a diminished ability to operate our business (for
example, by requiring us to expend significant resources to correct the defect), as well as potential liability to clients,
reputational damage and regulatory intervention, which could adversely affect our business, financial condition and
results of operations, perhaps materially.
Previously enacted and potential future regulations could have a significant impact on our business, financial
condition and results of operations. Dodd-Frank, which was enacted in 2010, is having a broad impact on the
financial services industry, including significant regulatory and compliance changes. Many of the requirements called
for in Dodd-Frank will be implemented over time, and most will be facilitated by the enactment of regulations over
the course of several years. Given the uncertainty associated with the manner in which the provisions of Dodd-Frank
will be implemented, the full extent to which they will impact our operations is unclear. The changes resulting from
Dodd-Frank may impact the profitability of business activities, require changes to certain business practices, impose
more stringent capital, liquidity and leverage requirements or otherwise adversely affect our business. In particular,
the potential impact of Dodd-Frank on our operations and activities, both currently and prospectively, include, among
others:
•
•
•
•
•
an increase in our cost of operations due to greater regulatory oversight, supervision and examination of
banks and bank holding companies, and higher deposit insurance premiums;
the limitation of our ability to expand consumer product and service offerings due to more stringent
consumer protection laws and regulations;
a negative impact on our cost of funds in a rising interest rate environment, since financial institutions
can now pay interest on business checking accounts;
a potential reduction in fee income, due to limits on interchange fees applicable to larger institutions
which could ultimately lead to a competitive-driven reduction in the fees we receive; and
a potential increase in competition due to the elimination of the remaining barriers to de novo interstate
branching.
18
Further, we may be required to invest significant management attention and resources to evaluate and make any
changes necessary to comply with new statutory and regulatory requirements under the Dodd-Frank Act, which could
negatively impact our results of operations and financial condition. We cannot predict whether there will be addi-
tional laws or reforms that would affect the U.S. financial system or financial institutions, when such changes may be
adopted, how such changes may be interpreted and enforced or how such changes may affect us. However, the costs
of complying with any additional laws or regulations could have a material adverse effect on our financial condition
and results of operations.
Growing by acquisition entails integration and certain other risks, and our financial condition and results of
operations could be negatively affected if our expansion efforts are unsuccessful or we fail to manage our
growth effectively. In addition to organic growth and the establishment of de novo branches, over the past several
years we have engaged in expansion through acquisitions of branches and whole institutions. We may continue to
pursue this growth strategy, within our current footprint and/or via geographic expansion, but there are risks associ-
ated with any such expansion. Those risks include, among others, incorrectly assessing the asset quality of a bank
acquired in a particular transaction, encountering greater than anticipated costs in integrating acquired businesses,
facing resistance from customers or employees, being unable to profitably deploy assets acquired in the transaction,
and regulatory compliance risks. To the extent we issue capital stock in connection with additional transactions, if
any, these transactions and related stock issuances may have a dilutive effect on earnings per share and share
ownership.
Our earnings, financial condition, and prospects after a merger or acquisition depend in part on our ability to suc-
cessfully integrate the operations of the acquired company. We may be unable to integrate operations successfully or
to achieve expected cost savings. Any cost savings which are realized may be offset by losses in revenues or other
charges to earnings. There also may be business disruptions that cause us to lose customers or cause customers to
remove their accounts from us and move their business to competing financial institutions. In addition, our ability to
grow may be limited if we cannot make acquisitions. We compete with other financial institutions with respect to
proposed acquisitions. We cannot predict if or when we will be able to identify and attract acquisition candidates or
make acquisitions on favorable terms.
We may experience future goodwill impairment. In accordance with GAAP, we record assets acquired and lia-
bilities assumed at their fair value with the excess of the purchase consideration over the net assets acquired resulting
in the recognition of goodwill. We perform a goodwill evaluation at least annually to test for potential impairment.
As part of our testing, we first assess qualitative factors to determine whether it is more likely than not that the fair
value of a reporting unit is less than its carrying amount. If we determine that the fair value of a reporting unit is less
than its carrying amount using these qualitative factors, we then measure the impairment loss by comparing the implied
fair value of goodwill with the carrying amount of that goodwill. Adverse conditions in our business climate, including
a significant decline in future operating cash flows, a significant change in our stock price or market capitalization, or
a deviation from our expected growth rate and performance may significantly affect the fair value of our goodwill and
may trigger impairment losses, which could be materially adverse to our operating results and financial position. We
cannot provide assurance that we will not be required to take an impairment charge in the future. Any impairment
charge would have an adverse effect on our shareholders’ equity and financial results and could cause a decline in our
stock price.
Changes in accounting standards may affect our performance. Our accounting policies and methods are funda-
mental to how we record and report our financial condition and results of operations. From time to time the FASB
and SEC change the financial accounting and reporting standards that govern the preparation of our financial
statements. These changes can be difficult to predict and can materially impact how we report and record our finan-
cial condition and results of operations. In some cases, we could be required to apply a new or revised standard
retroactively, resulting in a retrospective adjustment to prior financial statements.
One significant pronouncement is ASU 2016-13, which was released by the FASB in 2016 and which the Company
is required to adopt no later than January 1, 2020. ASU 2016-13 includes changes to the methodology for determin-
ing the amount of the allowance for credit losses, among other things. The new credit loss model will be a substan-
tial change from the standard in place today, as it requires the Company to calculate its allowance on the basis of
current expected credit losses over the lifetime of its loans (commonly referred to as the “CECL” model), instead of
losses inherent in the portfolio as of a point in time. On the effective date, institutions will record a cumulative-effect
19
balance sheet adjustment for financial assets carried at amortized cost for any change in the related allowance for loan
and lease losses generated by the adoption of the new standard. The Company’s preliminary evaluation indicates that
when adopted, the provisions of ASU 2016-13 will impact our consolidated financial statements, particularly the level
of our reserve for credit losses and shareholders’ equity, which could materially affect our financial condition and
future results of operations. See Note 2 to the consolidated financial statements under “Recent Accounting
Pronouncements” for additional details on ASU 2016-13 and its expected impact on the Company.
We may be adversely affected by the financial stability of other financial institutions. Our ability to engage in
routine transactions could be adversely affected by the actions and liquidity of other financial institutions. Financial
institutions are often interconnected as a result of trading, clearing, counterparty, or other business relationships. We
have exposure to many different industries and counterparties, and routinely execute transactions with counterparties
in the financial services industry, including commercial banks, brokers and dealers, investment banks, and other
institutional clients. Many of these transactions expose us to credit risk in the event of a default by a counterparty or
client. Even if the transactions are collateralized, credit risk could exist if the collateral held by us cannot be liquidated
at prices sufficient to recover the full amount of the credit or derivative exposure due to us. Any such losses could
adversely affect our business, financial condition or results of operations.
Changes in interest rates could adversely affect our profitability, business and prospects. Net interest income,
and therefore earnings, can be adversely affected by differences or changes in the interest rates on, or the repricing
frequency of, our financial instruments. In addition, fluctuations in interest rates can affect the demand of customers
for products and services, and an increase in the general level of interest rates may adversely affect the ability of
certain borrowers to make variable-rate loan payments. Accordingly, changes in market interest rates could have a
material adverse effect on the Company’s asset quality, loan origination volume, financial condition, results of oper-
ations, and cash flows. This interest rate risk can arise from Federal Reserve Board monetary policies, as well as other
economic, regulatory and competitive factors that are beyond our control.
We depend on our executive officers and key personnel to implement our business strategy, and could be
harmed by the loss of their services. We believe that our continued growth and success depends in large part upon
the skills of our management team and other key personnel. The competition for qualified personnel in the financial
services industry is intense, and the loss of key personnel or an inability to attract, retain or motivate key personnel
could adversely affect our business. If we are not able to retain our existing key personnel or attract additional qual-
ified personnel, our business operations could be impaired.
The value of the securities in our investment portfolio may be negatively affected by market disruptions,
adverse credit events or fluctuations in interest rates, which could have a material adverse impact on capital
levels. Our available-for-sale investment securities are reported at their estimated fair values, and fluctuations in fair
values can result from changes in market interest rates, rating agency actions, issuer defaults, illiquid markets and
limited investor demand, among other things. As long as the change in the fair value of a security is not considered
to be “other than temporary,” we directly increase or decrease accumulated other comprehensive income in share-
holders’ equity by the amount of the change in fair value, net of the tax effect. Because of the size of our fixed income
bond portfolio relative to total assets, a relatively large increase in market interest rates, in particular, could result in a
material drop in fair values and, by extension, our capital. Investment securities that have an amortized cost in excess
of their current fair value at the end of a reporting period are also evaluated for other-than-temporary impairment. If
such impairment is indicated, the difference between the amortized cost and the fair value of those securities will be
recorded as a charge in our income statement, which could also have a material adverse effect on our results of
operations and capital levels.
We are exposed to the risk of environmental liabilities with respect to properties to which we obtain title.
Approximately 84% of our loan portfolio at December 31, 2018 consisted of real estate loans. In the normal course
of business we may foreclose and take title to real estate collateral, and could be subject to environmental liabilities
with respect to those properties. We may be held liable to a governmental entity or to third parties for property
damage, personal injury, investigation and clean-up costs incurred by these parties in connection with environmental
contamination, or may be required to investigate or clean up hazardous or toxic substances, or chemical releases at a
property. The costs associated with investigation or remediation activities could be substantial. In addition, if we are
the owner or former owner of a contaminated site, we may be subject to common law claims by third parties based on
20
damages and costs resulting from environmental contamination emanating from the property. These costs and claims
could adversely affect our business and prospects.
Risks Related to our Common Stock
You may not be able to sell your shares at the times and in the amounts you want if the price of our stock
fluctuates significantly or the trading market for our stock is not active. The trading price of our common stock
could be impacted by a number of factors, many of which are outside our control. Although our stock has been listed
on NASDAQ for many years and our trading volume has increased in recent periods, trading in our stock does not
consistently occur in high volumes and the market for our stock cannot always be characterized as active. Thin trading
in our stock may exaggerate fluctuations in the stock’s value, leading to price volatility in excess of that which would
occur in a more active trading market. In addition, the stock market in general is subject to fluctuations that affect the
share prices and trading volumes of many companies, and these broad market fluctuations could adversely affect the
market price of our common stock. Factors that could affect our common stock price in the future include but are not
necessarily limited to the following:
•
•
•
•
•
•
•
•
•
actual or anticipated fluctuations in our operating results and financial condition;
changes in revenue or earnings estimates or publication of research reports and recommendations by
financial analysts;
failure to meet analysts’ revenue or earnings estimates;
speculation in the press or investment community;
strategic actions by us or our competitors, such as acquisitions or restructurings;
actions by shareholders;
sales of our equity or equity-related securities, or the perception that such sales may occur;
fluctuations in the trading volume of our common stock;
fluctuations in the stock prices, trading volumes, and operating results of our competitors;
• market conditions in general and, in particular, for the financial services industry;
•
proposed or adopted regulatory changes or developments;
•
•
•
regulatory action against us;
actual, anticipated or pending investigations, proceedings, or litigation that involve or affect us; and
domestic and international economic factors unrelated to our performance.
The stock market and, more specifically, the market for financial institution stocks, has experienced significant vola-
tility in the past, including in the latter part of 2018. As a result, the market price of our common stock has at times
been unpredictable and could be in the future, as well. The capital and credit markets have also experienced volatility
and disruption over the past several years, at times reaching unprecedented levels. In some cases, the markets have
produced downward pressure on stock prices and adversely impacted credit availability for certain issuers without
regard to the issuers’ underlying financial strength.
We could pursue additional capital in the future, which may or may not be available on acceptable terms, could
dilute the holders of our outstanding common stock, and may adversely affect the market price of our common
stock. Our ability to raise additional capital, if needed, will depend on, among other things, conditions in the capital
markets at the time, which are outside of our control, and our financial performance. Furthermore, any capital raising
activity could dilute the holders of our outstanding common stock, and may adversely affect the market price of our
common stock and performance measures such as return on equity and earnings per share.
Future acquisitions may dilute shareholder ownership and value, especially tangible book value per share. We
periodically evaluate opportunities to acquire other financial institutions and/or bank branches, and could incorporate
21
such acquisitions as part of our future growth strategy. Such acquisitions may involve cash, debt, and/or equity
securities. Acquisitions typically involve the payment of a premium over book and market values, and, therefore,
some dilution of our tangible book value per common share may occur in connection with any future acquisitions. To
the extent we issue capital stock in connection with such transactions, the share ownership of our existing shareholders
may be diluted.
The Company relies heavily on the payment of dividends from the Bank. Other than $2.3 million in cash avail-
able at the holding company level at December 31, 2018, the Company’s ability to meet debt service requirements
and pay dividends depends on the Bank’s ability to pay dividends to the Company, as the Company has no other
source of significant income. However, the Bank is subject to regulations limiting the amount of dividends it may
pay. For example, the payment of dividends by the Bank is affected by the requirement to maintain adequate capital
pursuant to the capital adequacy guidelines issued by the Federal Deposit Insurance Corporation. If (i) any capital
requirements are increased; and/or (ii) the total risk-weighted assets of the Bank increase significantly; and/or (iii) the
Bank’s income declines significantly, the Bank’s Board of Directors may decide or be required to retain a greater
portion of the Bank’s earnings to achieve and maintain the required capital or asset ratios. This would reduce the
amount of funds available for the payment of dividends by the Bank to the Company. Further, one or more of the
Bank’s regulators could prohibit the Bank from paying dividends if, in their view, such payments would constitute
unsafe or unsound banking practices. The Bank’s ability to pay dividends to the Company is also limited by the
California Financial Code. Whether dividends are paid, and the frequency and amount of such dividends will also
depend on the financial condition and performance of the Bank and the decision of the Bank’s Board of Directors.
Information concerning the Company’s dividend policy and historical dividend practices is set forth in Item 5 below
under “Dividends.” However, no assurance can be given that our future performance will justify the payment of
dividends in any particular year.
Your investment may be diluted because of our ability to offer stock to others, and from the exercise of stock
options. The shares of our common stock do not have preemptive rights, which means that you may not be entitled
to buy additional shares if shares are offered to others in the future. We are authorized to issue up to 24,000,000 shares
of common stock, and as of December 31, 2018 we had 15,300,460 shares of common stock outstanding. Except for
certain limitations imposed by NASDAQ, nothing restricts our ability to offer additional shares of stock for fair value
to others in the future. Any issuances of common stock would dilute our shareholders’ ownership interests and may
dilute the per share book value of our common stock. Furthermore, when our directors and officers exercise in-the-
money stock options your ownership in the Company is diluted. As of December 31, 2018, there were outstanding
options to purchase an aggregate of 453,020 shares of our common stock with an average exercise price of $18.45 per
share. At the same date there were an additional 767,000 shares available to grant under our 2017 Stock Incentive
Plan.
Shares of our preferred stock issued in the future could have dilutive and other effects on our common stock.
Our Articles of Incorporation authorize us to issue 10,000,000 shares of preferred stock, none of which is presently
outstanding. Although our Board of Directors has no present intention to authorize the issuance of shares of preferred
stock, such shares could be authorized in the future. If such shares of preferred stock are made convertible into shares
of common stock, there could be a dilutive effect on the shares of common stock then outstanding. In addition, shares
of preferred stock may be provided a preference over holders of common stock upon our liquidation or with respect
to the payment of dividends, in respect of voting rights, or in the redemption of our common stock. The rights,
preferences, privileges and restrictions applicable to any series or preferred stock would be determined by resolution
of our Board of Directors.
The holders of our debentures have rights that are senior to those of our shareholders. In 2004 we issued
$15,464,000 of junior subordinated debt securities due March 17, 2034, and in 2006 we issued an additional
$15,464,000 of junior subordinated debt securities due September 23, 2036 in order to supplement regulatory capital.
Moreover, the Coast Bancorp acquisition included $7,217,000 of junior subordinated debt securities due December
15, 2037. All of these junior subordinated debt securities are senior to the shares of our common stock. As a result,
we must make interest payments on the debentures before any dividends can be paid on our common stock, and in the
event of our bankruptcy, dissolution or liquidation, the holders of debt securities must be paid in full before any
distributions may be made to the holders of our common stock. In addition, we have the right to defer interest
payments on the junior subordinated debt securities for up to five years, during which time no dividends may be paid
to holders of our common stock. In the event that the Bank is unable to pay dividends to us, we may be unable to pay
22
the amounts due to the holders of the junior subordinated debt securities and thus would be unable to declare and pay
any dividends on our common stock.
Provisions in our articles of incorporation could delay or prevent changes in control of our corporation or our
management. Our articles of incorporation contain provisions for staggered terms of office for members of the board
of directors; no cumulative voting in the election of directors; and the requirement that our board of directors consider
the potential social and economic effects on our employees, depositors, customers and the communities we serve as
well as certain other factors, when evaluating a possible tender offer, merger or other acquisition of the Company.
These provisions make it more difficult for another company to acquire us, which could cause our shareholders to lose
an opportunity to be paid a premium for their shares in an acquisition transaction and reduce the current and future
market price of our common stock.
ITEM 1B. UNRESOLVED STAFF COMMENTS
Not applicable.
ITEM 2. PROPERTIES
The Company’s administrative headquarters is housed in a 37,000 square foot, three-story office building located at
86 North Main Street, Porterville, California, and our main office consists of a one-story brick building located at 90
N. Main Street, Porterville, California, adjacent to our administrative headquarters. Both of those buildings are situ-
ated on unencumbered property owned by the Company. The Company also owns unencumbered property on which
18 of our other offices are located, namely the following branches: Bakersfield Ming, California City, Dinuba, Exeter,
Farmersville, Fresno Shaw, Hanford, Lindsay, Lompoc, Porterville West Olive, San Luis Obispo, Santa Paula,
Tehachapi Downtown, Tehachapi Old Town, Three Rivers, Tulare, Visalia Mooney and Woodlake. The remaining
branches, as well as our technology center and remote ATM locations, are leased from unrelated parties. Management
believes that existing back-office facilities are adequate to accommodate the Company’s operations for the
immediately foreseeable future.
ITEM 3. LEGAL PROCEEDINGS
From time to time the Company is a party to claims and legal proceedings arising in the ordinary course of business.
After taking into consideration information furnished by counsel to the Company as to the current status of these
claims or proceedings to which the Company is a party, Management is of the opinion that the ultimate aggregate lia-
bility represented thereby, if any, will not have a material adverse effect on the financial condition of the Company.
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable.
23
PART II
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED SHAREHOLDER MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES
(a) Market Information
Sierra Bancorp’s Common Stock trades on the NASDAQ Global Select Market under the symbol BSRR, and the
CUSIP number for our stock is #82620P102. Trading in the Company’s Common Stock has not consistently occurred
in high volumes, and such trading activity cannot always be characterized as an active trading market.
The following table summarizes trades of the Company’s Common Stock, setting forth the approximate high and low
sales prices and volume of trading for the periods indicated, based upon information available via public sources:
Calendar
Quarter End
March 31, 2017......................
June 30, 2017.........................
September 30, 2017...............
December 31, 2017................
March 31, 2018......................
June 30, 2018.........................
September 30, 2018...............
December 31, 2018................
Sale Price Of The Company's
Common Stock
High
29.50
27.86
28.03
28.87
28.70
29.96
31.18
29.02
Low
25.06
23.10
23.29
24.32
25.42
25.72
28.03
22.94
Approximate Trading
Volumes
Shares
3,199,738
2,107,112
1,904,551
2,368,197
1,557,545
1,666,047
2,576,212
2,598,735
(b) Holders
As of January 31, 2019 there were an estimated 4,824 shareholders of the Company’s Common Stock. There were
695 registered holders of record on that date, and per Broadridge, an investor communication company, there were
4,129 beneficial holders with shares held under a street name, including “objecting beneficial owners” whose names
and addresses are unavailable. Since some holders maintain multiple accounts, it is likely that the above numbers
overstate the actual number of the Company’s shareholders.
(c) Dividends
The Company paid cash dividends totaling $9.8 million, or $0.64 per share in 2018 and $7.9 million, or $0.56 per
share in 2017, which represents 33% of annual net earnings for 2018 and 41% for 2017. The Company’s general divi-
dend policy is to pay cash dividends within the range of typical peer payout ratios, provided that such payments do
not adversely affect the Company’s financial condition and are not overly restrictive to its growth capacity. However,
in the past when many of our peers elected to suspend dividend payments, the Company’s Board determined that we
should continue to pay a certain level of dividends without regard to peer payout ratios, as long as our core operating
performance was adequate and policy or regulatory restrictions did not preclude such payments. That said, no assur-
ance can be given that our financial performance in any given year will justify the continued payment of a certain
level of cash dividend, or any cash dividend at all.
As a bank holding company that currently has no significant assets other than its equity interest in the Bank, the Com-
pany’s ability to declare dividends depends upon cash on hand as supplemented by dividends from the Bank. The
Bank’s dividend practices in turn depend upon the Bank’s earnings, financial position, regulatory standing, ability to
meet current and anticipated regulatory capital requirements, and other factors deemed relevant by the Bank’s Board
of Directors. The authority of the Bank’s Board of Directors to declare cash dividends is also subject to statutory
restrictions. Under California banking law, the Bank may at any time declare a dividend in an amount not to exceed
the lesser of (i) its retained earnings, or (ii) its net income for the last three fiscal years reduced by distributions to the
Bank’s shareholder during such period. However, with the prior approval of the California Commissioner of Business
Oversight the Bank may declare a larger dividend, in an amount not exceeding the greatest of (i) the retained earnings
of the Bank, (ii) the net income of the Bank for its last fiscal year, or (iii) the net income of the Bank for its current
fiscal year.
24
The Company’s ability to pay dividends is also limited by state law. California law allows a California corporation
to pay dividends if its retained earnings equal at least the amount of the proposed dividend plus any preferred dividend
arrears amount. If a California corporation does not have sufficient retained earnings available for the proposed
dividend, it may still pay a dividend to its shareholders if immediately after the dividend the value of the company’s
assets would equal or exceed the sum of its total liabilities plus any preferred dividend arrears amount. In addition,
during any period in which the Company has deferred the payment of interest otherwise due and payable on its sub-
ordinated debt securities, it may not pay any dividends or make any distributions with respect to its capital stock (see
“Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations – Capital
Resources”).
(d)
Securities Authorized for Issuance under Equity Compensation Plans
The following table provides information as of December 31, 2018 with respect to options outstanding and available
under our 2017 Stock Incentive Plan and the now-terminated 2007 Stock Incentive Plan, which are our only equity
compensation plans other than an employee benefit plan meeting the qualification requirements of Section 401(a) of
the Internal Revenue Code:
Plan Category
Equity compensation plans
approved by security holders .................
Number of Securities
to be Issued Upon Exercise
of Outstanding Options
Weighted-Average
Exercise Price of
Outstanding Options
Number of Securities
Remaining Available
for Future Issuance
453,020
$18.45
767,000
(e) Performance Graph
Below is a five-year performance graph comparing the cumulative total return on the Company’s common stock to
the cumulative total returns of the NASDAQ Composite Index (a broad equity market index), the SNL Bank Index,
and the SNL $1 billion to $5 billion Bank Index (the latter two qualifying as peer bank indices), assuming a $100
investment on December 31, 2013 and the reinvestment of dividends.
25
200
180
160
140
120
l
e
u
a
V
x
e
d
n
I
100
12/31/13
Index
Total Return Performance
Sierra Bancorp
NASDAQ Composite Index
SNL Bank $1B-$5B Index
SNL Bank Index
12/31/14
12/31/15
12/31/16
12/31/17
12/31/18
Period Ending
12/31/13
12/31/14
12/31/15
12/31/16
12/31/17
12/31/18
100.00
100.00
100.00
100.00
111.43
114.75
104.56
111.79
114.91
122.74
117.04
113.69
177.96
133.62
168.38
143.65
181.55
173.22
179.51
169.64
168.05
168.30
157.27
140.98
Sierra Bancorp ...................................
NASDAQ Composite Index ..............
SNL Bank $1B-$5B Index.................
SNL Bank Index ................................
Source: S&P Global Market Intelligence
(f)
Stock Repurchases
In September 2016 the Board authorized 500,000 shares of common stock for repurchase, subsequent to the com-
pletion of previous stock buyback plans. The authorization of shares for repurchase does not provide assurance that
a specific quantity of shares will be repurchased, and the program may be suspended at any time at Management’s
discretion. The Company did not repurchase any shares in the fourth quarter of 2018, and there were 478,954
authorized shares remaining available for repurchase at December 31, 2018. As of the date of this report, Manage-
ment has no immediate plans to resume stock repurchase activity.
ITEM 6. SELECTED FINANCIAL DATA
The following table presents selected historical financial information concerning the Company, which should be read
in conjunction with our audited consolidated financial statements, including the related notes, and “Management’s
Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere herein. The selected
financial data as of December 31, 2018 and 2017, and for each of the years in the three year period ended December
31, 2018, is derived from our audited consolidated financial statements and related notes which are included in this
Annual Report. The selected financial data presented for earlier years is from our audited financial statements which
are not included in this Annual Report. Throughout this Annual Report, information is for the consolidated Company
unless otherwise stated.
26
Selected Financial Data
(dollars in thousands, except per share data)
Operating Data
Interest income ............................................................... $
Interest expense ..............................................................
Net interest income before provision for loan losses .....
(Benefit) provision for loan losses .................................
Non-interest income .......................................................
Non-interest expense ......................................................
Income before provision for income taxes.....................
Provision for income taxes.............................................
Net income .....................................................................
Selected Balance Sheet Summary
Total loans, net ...............................................................
Allowance for loan losses ..............................................
Securities available for sale............................................
Cash and due from banks ...............................................
Foreclosed assets ............................................................
Premises and equipment, net..........................................
Total interest-earning assets ...........................................
Total assets .....................................................................
Total interest-bearing liabilities .....................................
Total deposits .................................................................
Total liabilities ...............................................................
Total shareholders' equity ..............................................
Per Share Data
Net income per basic share ............................................
Net income per diluted share..........................................
Book value .....................................................................
Cash dividends ...............................................................
Weighted average common shares outstanding basic ....
Weighted average common shares outstanding diluted .
Key Operating Ratios:
Performance Ratios: (1)
Return on average equity................................
Return on average assets.................................
Net interest spread (tax-equivalent) (4)............
Net interest margin (tax-equivalent)...............
Dividend payout ratio .....................................
Equity to assets ratio.......................................
Efficiency ratio (tax-equivalent).....................
Net loans to total Deposits at Period end........
Asset Quality Ratios: (1)
Non-performing loans to total loans (2)...........
Non-performing assets to total loans and
other real estate owned (2) ...............................
Net (recoveries) charge-offs to average loans
Allowance for loan losses to net loans at
period end .......................................................
Allowance for Loan Losses to Non-
Performing Loans ...........................................
Regulatory Capital Ratios: (3)
Common equity tier 1 capital to risk-
weighted assets ...............................................
Tier 1 capital to adjusted average assets
(leverage ratio)................................................
Tier 1 capital to risk-weighted assets .............
Total capital to risk-weighted assets...............
As of and for the years ended December 31,
2018
2017
2016
2015
2014
$
101,638
9,244
92,394
4,350
21,564
70,024
39,584
9,907
29,677
$
80,924
5,223
75,701
(1,140)
21,779
65,441
33,179
13,640
19,539
$
68,505
3,323
65,182
—
19,238
58,053
26,367
8,800
17,567
$
62,707
2,581
60,126
—
17,715
50,703
27,138
9,071
18,067
1,724,780
9,750
560,479
74,132
1,082
29,500
2,286,952
2,522,502
1,561,039
2,116,340
2,249,478
273,024
1.94
1.92
17.84
0.64
15,261,794
15,432,120
1,551,551
9,043
558,329
70,137
5,481
29,388
2,118,875
2,340,298
1,417,590
1,988,386
2,084,356
255,942
1.38
1.36
16.81
0.56
14,172,196
14,357,782
1,255,754
9,701
530,083
120,442
2,225
28,893
1,827,192
2,032,873
1,277,416
1,695,471
1,826,995
205,878
1.30
1.29
14.94
0.48
13,530,293
13,651,804
1,124,602
10,423
507,582
48,623
3,193
21,990
1,634,180
1,796,537
1,150,010
1,464,628
1,606,197
190,340
1.34
1.33
14.36
0.42
13,460,605
13,585,110
55,121
2,796
52,325
350
15,831
—
21,431
6,191
15,240
961,056
11,248
511,883
50,095
3,991
21,853
1,474,629
1,637,320
1,038,177
1,366,695
1,450,229
187,091
1.09
1.08
13.67
0.34
14,001,958
14,136,486
11.37%
1.23%
4.03%
4.24%
32.99%
10.80%
60.79%
81.50%
0.30%
0.36%
0.22%
8.82%
0.93%
3.90%
4.04%
40.61%
10.53%
65.52%
78.03%
0.25%
0.60%
-0.04%
8.71%
0.95%
3.86%
3.95%
36.97%
10.93%
67.23%
74.07%
0.50%
0.68%
0.06%
9.59%
1.07%
3.92%
3.99%
31.29%
11.13%
63.98%
70.32%
0.85%
1.13%
0.08%
8.18%
1.03%
3.92%
4.01%
31.33%
12.58%
66.30%
70.32%
2.13%
2.53%
0.09%
-0.57%
-0.58%
-0.77%
-0.93%
-1.17%
-189.10%
-228.19%
-152.41%
-108.19%
-54.40%
12.61%
12.84%
14.09%
N/A
11.49%
14.38%
14.89%
11.32%
14.79%
15.32%
11.92%
16.53%
17.25%
12.99%
17.39%
18.44%
N/A
12.99%
17.39%
18.44%
(1)
(2)
(3)
(4)
Asset quality ratios are end of period ratios. Performance ratios are based on average daily balances during the periods indicated.
Performing TDR’s are not included in nonperforming loans and are therefore not included in the numerators used to calculate these ratios.
For definitions and further information relating to regulatory capital requirements, see “Item 1, Business - Supervision and Regulation - Capital
Adequacy Requirements herein.
Represents the average rate earned on interest-earning assets less the average rate paid on interest-bearing liabilities.
27
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This discussion presents Management’s analysis of the Company’s financial condition as of December 31, 2018 and
2017, and the results of operations for each year in the three-year period ended December 31, 2018. The discussion
should be read in conjunction with the Company’s consolidated financial statements and the notes related thereto
presented elsewhere in this Form 10-K Annual Report (see Item 8 below).
Statements contained in this report or incorporated by reference that are not purely historical are forward looking state-
ments within the meaning of Section 21E of the Securities Exchange Act of 1934 as amended, including the
Company’s expectations, intentions, beliefs, or strategies regarding the future. All forward-looking statements con-
cerning economic conditions, growth rates, income, expenses, or other values which are included in this document are
based on information available to the Company on the date noted, and the Company assumes no obligation to update
any such forward-looking statements. It is important to note that the Company’s actual results could materially differ
from those in such forward-looking statements. Risk factors that could cause actual results to differ materially from
those in forward-looking statements include but are not limited to those outlined previously in Item 1A.
Critical Accounting Policies
The Company’s financial statements are prepared in accordance with accounting principles generally accepted in the
United States. The financial information and disclosures contained within those statements are significantly impacted
by Management’s estimates and judgments, which are based on historical experience and incorporate various assump-
tions that are believed to be reasonable under current circumstances. Actual results may differ from those estimates
under divergent conditions.
Critical accounting policies are those that involve the most complex and subjective decisions and assessments, and
have the greatest potential impact on the Company’s stated results of operations. In Management’s opinion, the
Company’s critical accounting policies deal with the following areas: the establishment of an allowance for loan and
lease losses, as explained in detail in Note 2 to the consolidated financial statements and in the “Provision for Loan
Losses” and “Allowance for Loan and Lease Losses” sections of this discussion and analysis; the valuation of impaired
loans and foreclosed assets, as discussed in Note 2 to the consolidated financial statements; income taxes and deferred
tax assets and liabilities, especially with regard to the ability of the Company to recover deferred tax assets as discussed
in the “Provision for Income Taxes” and “Other Assets” sections of this discussion and analysis; and goodwill and
other intangible assets, which are evaluated annually for impairment and for which we have determined that no
impairment exists, as discussed in Note 2 to the consolidated financial statements and in the “Other Assets” section
of this discussion and analysis. Critical accounting areas are evaluated on an ongoing basis to ensure that the
Company’s financial statements incorporate the most recent expectations with regard to those areas.
28
Overview of the Results of Operations and Financial Condition
Results of Operations Summary
The Company recognized net income of $29.677 million in 2018, relative to $19.539 million in 2017 and $17.567
million in 2016. Net income per diluted share was $1.92 in 2018, as compared to $1.36 in 2017 and $1.29 for 2016.
The Company’s return on average assets and return on average equity were 1.23% and 11.37%, respectively, in 2018,
as compared to 0.93% and 8.82%, respectively, in 2017 and 0.95% and 8.71%, respectively, for 2016. Our operating
results and balance sheet have been materially impacted in recent periods by whole-bank acquisitions and nonrecurring
items, as discussed in greater detail in the applicable sections below. Furthermore, the Company’s financial perfor-
mance was favorably affected by a substantially lower corporate income tax rate starting in 2018, but was negatively
impacted in 2017 by a $2.710 million charge to our income tax provision as we revalued our net deferred tax asset to
reflect the lower income tax rate enacted at the end of the year. Excluding the impact of nonrecurring items, our core
financial results have been trending better for the past several years due in part to a higher volume of loans, a strong
base of core deposits, and reductions in nonperforming assets. The following is a summary of the major factors that
impacted the Company’s results of operations for the years presented in the consolidated financial statements.
• Net interest income improved by 22% in 2018 over 2017 and 16% in 2017 over 2016, due primarily to
growth in average interest-earning assets. The increase in average earning assets in 2018 over 2017 was largely
organic, resulting from concerted business development efforts and lending opportunities inherent in expanded
markets. The increase in 2017 over 2016 was the result of our acquisitions of Coast National Bank in mid-2016
and Ojai Community Bank in the fourth quarter of 2017, organic loan growth, and a higher level of investments.
The positive impact of asset growth was enhanced by net interest margin expansion of 20 basis points in 2018
and nine basis points in 2017, resulting in part from short-term interest rate increases, discount accretion on
acquisition loans, and a favorable shift in our mix of interest-earning assets. Net interest income has also been
impacted by nonrecurring interest items, which added $277,000 to interest income in 2018 relative to $736,000
in 2017 and $563,000 in 2016.
• We recorded a loan loss provision of $4.350 million in 2018, relative to a negative provision of $1.140 million
in 2017 and no provision for 2016. The 2018 provision was deemed necessary subsequent to our determination
of the appropriate level for our allowance for loan and lease losses, taking into consideration overall credit quality,
growth in outstanding loan balances, and reserves required for specifically identified impaired loan balances
(including $2.4 million for a large purchased participation loan that was placed on non-accrual status in the third
quarter). The provision reversal in 2017 was made possible by principal recovered on charged-off loan balances,
and the zero provision for 2016 was facilitated by the reduction of impaired loan balances, lower loan losses, and
tighter underwriting standards for new and renewed loans.
• Noninterest income fell by $215,000, or 1%, in 2018 over 2017, but improved by $2.541 million, or 13%, in
2017 compared to 2016. The decline in 2018 occurred as gains in deposit service charges, debit card interchange
income, and other fees were offset by lower income from bank-owned life insurance (“BOLI”) associated with
deferred compensation plans, and a drop in nonrecurring income including the impact of an expense amortization
adjustment on our tax credit investments (reflected as an offset to income). The improvement in 2017 is
comprised primarily of growth in service charges on deposit accounts and other core fee income, but also includes
nonrecurring items as discussed below.
• Operating expense increased by $4.583 million, or 7%, in 2018 over 2017, and by $7.388 million, or 13%,
in 2017 compared to 2016. The escalation for 2018 includes the impact of acquisitions on ongoing operating
costs and a relatively large increase in group health insurance costs, partially offset by favorable swings of $1.776
million in nonrecurring acquisition costs, $1.000 million in net foreclosed asset costs, and $698,000 in directors
deferred compensation expense (related to the drop in BOLI income). Most of the 2017 increase came from
higher operating costs associated with branches added via our acquisitions as well as de novo branch expansion.
Nonrecurring costs, including those related to acquisitions, are delineated below.
•
The Company recorded income tax provisions of $9.907 million, or 25% of pre-tax income in 2018; $13.640
million, or 41% of pre-tax income in 2017; and $8.800 million, or 33% of pre-tax income in 2016. The lower
tax rate for 2018 resulted from a reduction in our federal income tax rate starting in 2018. The relatively high tax
accrual rate for 2017 over 2016 is primarily the result of the aforementioned $2.710 million deferred tax asset
revaluation charge, but also reflects higher taxable income relative to available tax credits.
29
Financial Condition Summary
The Company’s assets totaled $2.523 billion at December 31, 2018, relative to $2.340 billion at December 31, 2017.
Total liabilities were $2.249 billion at the end of 2018 compared to $2.084 billion at the end of 2017, and sharehold-
ers’ equity totaled $273 million at December 31, 2018 relative to $256 million at December 31, 2017. The following
is a summary of key balance sheet changes during 2018.
•
Total assets increased by $182 million, or 8%. The increase resulted primarily from net loan growth.
• Gross loans and leases were up $174 million, or 11%. Loan growth consisted mainly of strong organic growth
in real estate loans, largely occurring in commercial real estate and construction loans. Mortgage warehouse loans
were down $46 million, or 33%, primarily because a lower utilization rate on mortgage warehouse lines, and
commercial and consumer loan balances also declined.
• Deposit balances reflect net growth of $128 million, or 6%. Deposit growth in 2018 includes deposits in our
acquired Lompoc branch totaling about $34 million at the reporting date, and the addition of $50 million in
wholesale brokered deposits. Core non-maturity deposits fell by close to $8 million, as the Bank’s time deposit
promotion in the fourth quarter resulted in some internal cannibalization of money market deposits in particular,
which were down by $48 million, or 28%. Customer time deposits increased by $86 million, or 23%, during
2018, due in large part to the promotion.
•
Total capital increased by $17 million, or 7%, ending the year with a balance of $273 million. The increase
in capital is due to the addition of net income and capital from stock options exercised, net of dividends paid, and
a $4.3 million increase in our accumulated other comprehensive loss.
Results of Operations
As noted above, acquisitions have had a material impact on our operating results in recent periods, including the
recognition of nonrecurring acquisition costs as well as higher revenues and ongoing overhead expense. Our results
were also materially affected by the reduction in our federal income tax rate, which was enacted at the end of 2017
and became effective at the beginning of 2018. Net income was $29.677 million in 2018, an increase of $10.138
million, or 52%, relative to 2017. Net income also increased by $1.972 million, or 11%, in 2017 compared to 2016.
The Company earns income from two primary sources. The first is net interest income, which is interest income gen-
erated by earning assets less interest expense on deposits and other borrowed money. The second is noninterest
income, which primarily consists of customer service charges and fees but also comes from non-customer sources
such as bank-owned life insurance and investment gains. The majority of the Company’s noninterest expense is
comprised of operating costs that facilitate offering a full range of banking services to our customers.
Net Interest Income and Net Interest Margin
Net interest income was $92.394 million in 2018, compared to $75.701 million in 2017 and $65.182 million in 2016.
This equates to increases of 22% in 2018 and 16% in 2017. The level of net interest income we recognize in any
given period depends on a combination of factors including the average volume and yield for interest-earning assets,
the average volume and cost of interest-bearing liabilities, and the mix of products which comprise the Company’s
earning assets, deposits, and other interest-bearing liabilities. Net interest income is also impacted by the reversal of
interest for loans placed on non-accrual status, and the recovery of interest on loans that had been on non-accrual and
were paid off, sold or returned to accrual status.
The following table shows average balances for significant balance sheet categories and the amount of interest income
or interest expense associated with each category for each of the past three years. The table also displays calculated
yields on each major component of the Company’s investment and loan portfolios, average rates paid on each key
segment of the Company’s interest-bearing liabilities, and our net interest margin for the noted periods.
30
Distribution, Rate & Yield
(dollars in thousands, except footnotes)
Average
Balance(1)
2018
Income/
Expense
Average
Rate/Yield(2)
Assets
Year Ended December 31,
2017
Income/
Expense
Average
Rate/Yield(2)
Average
Balance(1)
Average
Balance(1)
2016
Income/
Expense
Average
Rate/Yield(2)
Investments:
Federal funds sold/due from
banks ....................................... $
Taxable....................................
Non-taxable .............................
Equity ......................................
Total investments ...
13,237 $
422,848
140,300
—
576,385
Loans and Leases: (3)
Real estate ............................... 1,350,425
52,031
Agricultural .............................
124,809
Commercial .............................
9,755
Consumer ................................
86,030
Mortgage warehouse ...............
2,682
Other........................................
Total loans and
leases ...................... 1,625,732
Total interest earning assets (4). 2,202,117
10,514
Other earning assets ................
204,316
Non-earning assets ..................
Total assets .................... $ 2,416,947
Liabilities and shareholders'
equity
119,432 $
425,596
298,021
149,024
—
Interest bearing deposits:
Demand deposits ..................... $
NOW .......................................
Savings accounts .....................
Money market .........................
CDAR's ...................................
Certificates of
deposit<$100,000 ....................
Certificates of
deposit>$100,000 ....................
Brokered deposits....................
Total interest
bearing deposits...... 1,401,715
310,880
16,822
81,940
238
9,548
4,060
—
13,846
73,006
2,980
5,969
1,251
4,415
171
87,792
101,638
1.77 % $
2.23 %
3.66 %
—
2.55 %
34,832 $
437,194
133,506
1,128
606,660
5.41 % 1,029,224
5.73 %
49,335
120,307
4.78 %
12.82 %
11,471
105,352
5.13 %
3,220
6.38 %
5.40 % 1,318,909
4.66 % 1,925,569
9,018
170,229
$ 2,104,816
356
8,614
3,711
16
12,697
53,329
2,448
6,252
1,329
4,690
179
68,227
80,924
1.01 % $
1.94 %
4.28 %
1.40 %
2.39 %
11,210 $
415,902
108,568
1,214
536,894
5.18 %
4.96 %
5.20 %
11.59 %
4.45 %
5.56 %
827,868
48,730
116,135
13,789
144,531
2,187
5.17 % 1,153,240
4.31 % 1,690,134
8,045
146,361
$ 1,844,540
84
7,922
3,009
40
11,055
42,107
2,143
5,915
1,574
5,577
134
57,450
68,505
0.74 %
1.87 %
4.26 %
3.24 %
2.32 %
5.09 %
4.40 %
5.09 %
11.41 %
3.86 %
6.13 %
4.98 %
4.15 %
364
478
314
146
—
0.30 % $
0.11 %
0.11 %
0.10 %
—
135,713 $
380,626
241,746
136,915
32
417
427
258
157
—
0.31 % $
0.11 %
0.11 %
0.11 %
—
131,803 $
327,961
206,234
109,027
3,700
399
361
229
80
4
0.30 %
0.11 %
0.11 %
0.07 %
0.11 %
614
0.75 %
74,847
292
0.39 %
75,383
236
0.31 %
5,039
305
1.62 %
1.81 %
274,298
—
2,211
—
0.81 %
—
238,858
—
865
—
0.36 %
—
7,260
0.52 % 1,244,177
3,762
0.30 % 1,092,966
2,174
0.20 %
Borrowed funds:
Federal funds purchased..........
Repurchase agreements...........
Short term borrowings.............
Long term borrowings.............
TRUPS ....................................
22
14,332
8,967
—
34,673
—
57
196
—
1,731
—
0.40 %
2.19 %
—
4.99 %
166
8,514
7,074
—
34,496
1
34
58
—
1,368
0.60 %
0.40 %
0.82 %
—
3.97 %
822
8,371
28,333
306
33,403
6
33
127
—
983
0.73 %
0.39 %
0.45 %
—
2.94 %
Total borrowed
funds .......................
Total interest
bearing liabilities .... 1,459,709
57,994
Non-interest bearing demand
deposits....................................
Other liabilities........................
Shareholders' equity ................
Total liabilities and
shareholders' equity...... $ 2,416,947
665,941
30,383
260,914
1,984
3.42 %
50,250
1,461
2.91 %
71,235
1,149
1.61 %
9,244
0.63 % 1,294,427
5,223
0.40 % 1,164,201
3,323
0.29 %
557,686
31,062
221,641
462,200
16,521
201,618
$ 2,104,816
$ 1,844,540
Interest income/interest
earning assets ..........................
Interest expense/interest
earning assets ..........................
Net interest
income and
margin(5).................
4.66 %
0.42 %
4.31 %
0.27 %
4.15 %
0.20 %
$
92,394
4.24 %
$
75,701
4.04 %
$
65,182
3.95 %
(1)
(2)
(3)
(4)
(5)
Average balances are obtained from the best available daily or monthly data and are net of deferred fees and related direct costs.
Yields and net interest margin have been computed on a tax equivalent basis.
Loans are gross of the allowance for possible loan losses. Net loan fees have been included in the calculation of interest income. Net loan
fees and loan acquisition FMV amortization were $818,440, $629,660, and $461,003 for the years ended December 31, 2018, 2017, and
2016 respectively.
Non-accrual loans are slotted by loan type and have been included in total loans for purposes of total interest earning assets.
Net interest margin represents net interest income as a percentage of average interest-earning assets (tax-equivalent).
31
The Volume and Rate Variances table below sets forth the dollar difference for the comparative periods in interest
earned or paid for each major category of interest-earning assets and interest-bearing liabilities, and the amount of
such change attributable to fluctuations in average balances (volume) or differences in average interest rates. Volume
variances are equal to the increase or decrease in average balances multiplied by prior period rates, and rate variances
are equal to the change in rates multiplied by prior period average balances. Variances attributable to both rate and
volume changes, calculated by multiplying the change in rates by the change in average balances, have been allocated
to the rate variance.
Volume & Rate Variances
(dollars in thousands)
Assets:
Investments:
Federal funds sold/due from time . $
Taxable..........................................
Non-taxable...................................
Equity............................................
Total investments ...................
Loans and leases:
Real estate .....................................
Agricultural ...................................
Commercial...................................
Consumer ......................................
Mortgage warehouse.....................
Other .............................................
Total loans and leases ............
Total interest earning assets ... $
Liabilities:
Interest bearing deposits:
Demand
NOW ............................................. $
Savings accounts...........................
Money market ....................
CDAR's .........................................
Certificates of deposit < $100,000
Certificates of deposit > $100,000
Brokered deposits..........................
Total interest bearing
deposits...................................
Borrowed funds:.................
Borrowed funds:
Federal funds purchased ...............
Repurchase agreements.................
Short term borrowings ..................
Long term borrowings...................
TRUPS ..........................................
Total borrowed funds .............
Total interest bearing
liabilities.................................
Net interest income............... $
Years Ended December 31,
2018 over 2017
Increase(decrease) due to
Rate
Volume
Net
Volume
2017 over 2016
Increase(decrease) due to
Rate
Net
(221) $
(317)
189
(16)
(365)
16,643
134
234
(199)
(860)
(30)
15,922
15,557 $
(50) $
50
60
14
—
28
295
—
397
(1)
23
16
—
7
45
103 $
1,251
160
—
1,514
3,034
398
(517)
121
585
22
3,643
5,157 $
(3) $
1
(4)
(25)
—
294
2,533
305
3,101
—
—
122
—
356
478
(118) $
934
349
(16)
1,149
176 $
419
691
(3)
1,283
19,677
532
(283)
(78)
(275)
(8)
19,565
20,714 $
10,241
27
212
(265)
(1,512)
63
8,766
10,049 $
(53) $
51
56
(11)
—
322
2,828
305
3,498
(1)
23
138
—
363
523
12 $
58
39
20
(4)
(2)
128
—
251
(5)
1
(95)
—
32
(67)
96 $
273
11
(21)
359
981
278
125
20
625
(18)
2,011
2,370 $
6 $
8
(10)
57
—
58
1,218
—
1,337
—
—
26
—
353
379
272
692
702
(24)
1,642
11,222
305
337
(245)
(887)
45
10,777
12,419
18
66
29
77
(4)
56
1,346
—
1,588
(5)
1
(69)
—
385
312
442
15,115 $
3,579
1,578 $
4,021
16,693 $
184
9,865 $
1,716
654 $
1,900
10,519
32
Net interest income in 2018 relative to 2017 reflects a favorable variance of $15.153 million attributable to volume
changes, in addition to a favorable rate variance of $1.540 million. The volume variance is due to an increase of $277
million, or 14%, in average interest-earning assets, resulting from the impact of acquisitions and organic growth in
loans less a $30 million drop in the average balance of investments. The rate variance is largely the result of a 35
basis point increase in our yield on average earning assets relative to an increase of only 23 basis points in the cost of
interest-bearing liabilities. Investment yields have been increasing due to the current rising rate environment, and in
response to limited investment portfolio restructuring which took place in the latter part of 2017. Loan yields have
risen as a result of the impact of higher short-term index rates on variable-rate loans, and a relatively large volume of
new fixed-rate and adjustable-rate loans booked at higher interest rates. Rates paid on non-maturity deposits were
about the same for the comparative periods, but the weighted average cost of interest-bearing liabilities went up
primarily because of higher rates paid on time deposits (including brokered deposits added in the last half of 2018),
overnight borrowings and adjustable-rate trust-preferred securities (“TRUPS”). The Company’s variance in net
interest income also benefited from the fact that the yield increase on earning assets was applied to a much higher
balance than the rate change for interest-bearing liabilities. Nonrecurring interest income totaled $277,000 during
2018 as compared to $736,000 for 2017, for a drop of $459,000. The Company’s net interest margin, which is tax-
equivalent net interest income as a percentage of average interest-earning assets, was 4.24% for 2018 relative to 4.04%
in 2017. Discount accretion on loans from whole-bank acquisitions enhanced our net interest margin by approximately
seven basis points in 2018 as compared to five basis points in 2017.
The volume variance calculated for 2017 relative to 2016 was a favorable $9.865 million, due to an increase of $235
million, or 14%, in the average balance of interest-earning assets resulting from the impact of acquisitions and organic
growth in loans and investments. There was also a favorable rate variance of $654,000 for 2017 over 2016, again
because loan and investment yields increased by more than the cost of interest-bearing liabilities, and because the
yield increase on earning assets was applied to a higher balance than the rate change for interest-bearing liabilities.
Our net interest margin was up by nine basis points in 2017 relative to 2016.
Provision for Loan and Lease Losses
Credit risk is inherent in the business of making loans. The Company sets aside an allowance for loan and lease losses,
a contra-asset account, through periodic charges to earnings which are reflected in the income statement as a provision
for loan and lease losses. The Company recorded a loan loss provision of $4.350 million in 2018, as compared to
negative loan loss provision of $1.140 million in 2017 and no provision for 2016. The provision for 2018 includes
$2.400 million for a large purchased participation loan that was placed on non-accrual status in the third quarter of
2018, and also factors in adjustments to the allowance for loan and lease losses pursuant to our evaluation of overall
credit quality, growth in outstanding loan balances, and reserves required for other specifically identified impaired
loan balances. The provision reversal in 2017 was made possible by principal recovered on charged-off loan balances,
and the zero provision for 2016 was facilitated by the reduction of impaired loan balances, lower loan losses, and
tighter underwriting standards for new and renewed loans.
With the loan loss provision recorded in 2018 we were able to maintain our allowance for loan and lease losses at a
level that, in Management’s judgment, is adequate to absorb probable loan losses related to specifically identified
impaired loans as well as probable incurred losses in the remaining loan portfolio. Specifically identifiable and
quantifiable loan losses are immediately charged off against the allowance. The Company experienced net loan losses
of $3.643 million in 2018, including a $2.400 million loss on the previously-referenced participation loan as the loan
was transferred OREO and subsequently sold. The Company recorded net recoveries of $482,000 on charged off
balances in 2017, and net loan charge-offs of $722,000 in 2016. Except for the outsized provision required in 2018
for a single loan, our need for reserve replenishment via a loan loss provision has been favorably impacted in recent
periods by the following factors: we had net principal recoveries in 2017, which went back into the allowance; all of
our acquired loans were booked at their fair values at acquisition, and thus did not initially require a loan loss
allowance; most charge-offs were recorded against pre-established reserves, which alleviated what otherwise might
have been a need for reserve replenishment; loss rates for most loan types have been declining, thus having a positive
impact on general reserves required for performing loans; and, new loans booked during and since the great recession
have been underwritten using tighter credit standards than was the case for many legacy loans.
The Company’s policies for monitoring the adequacy of the allowance and determining loan amounts that should be
charged off, and other detailed information with regard to changes in the allowance, are discussed in Note 2 to the
33
consolidated financial statements and below under “Allowance for Loan and Lease Losses.” The process utilized to
establish an appropriate allowance for loan and lease losses can result in a high degree of variability in the Compa-
ny’s loan loss provision, and consequently in our net earnings.
Noninterest Revenue and Operating Expense
The table below sets forth the major components of the Company’s noninterest revenue and operating expense for the
years indicated, along with relevant ratios:
Non-Interest Income/Expense
(dollars in thousands)
2018
% of Total
2017 % of Total
2016 % of Total
Year Ended December 31,
NON-INTEREST INCOME:
Service charges on deposit accounts ........................ $ 12,439
5,878
Checkcard fees .........................................................
5,219
Other service charges and fees .................................
591
Bank owned life insurance income ..........................
2
Gain on sale of securities..........................................
(2,561)
Loss on tax credit investment ...................................
(4)
Other .........................................................................
Total non-interest income ..................... 21,564
As a % of average interest-earning
assets .....................................................
57.69% $ 11,230
4,955
27.26%
4,052
24.20%
1,640
2.74%
500
0.01%
(961)
-11.88%
363
-0.02%
100.00% 21,779
51.55% $ 10,151
4,467
22.75%
3,865
18.61%
994
7.53%
223
2.30%
(944)
-4.41%
482
1.67%
100.00% 19,238
0.98%
1.13%
52.76%
23.22%
20.09%
5.17%
1.16%
-4.91%
2.51%
100.00%
1.14%
2,632
7,663
2,748
5,015
5,413
OTHER OPERATING EXPENSES:
Salaries and employee benefits ................................ 36,133
Occupancy costs .......................................................
Furniture and equipment ....................................
Premises .............................................................
Advertising and promotion costs..............................
Data processing costs ...............................................
Deposit services costs...............................................
Loan services costs ...................................................
Loan processing..................................................
Foreclosed assets ................................................
Other operating costs................................................
Telephone and data communications .................
Postage and mail.................................................
Other...................................................................
Professional services costs .......................................
Legal and accounting .........................................
Acquisition costs ................................................
Other professional services costs .......................
Stationery and supply costs ......................................
Sundry & tellers........................................................
1,932
449
1,956
1,387
400
Total other operating expense ............................ $ 70,024
1,479
997
1,408
1,142
(730)
As a % of average interest-earning assets ..........
Net non-interest income as a % of average
interest-earning assets.................................
Efficiency ratio (1) .....................................................
(1)
Tax Equivalent
34
51.61% 31,506
48.14% 27,452
47.30%
3.76%
10.94%
3.92%
7.16%
7.73%
2,674
6,916
2,514
4,365
4,426
4.09%
10.57%
3.84%
6.67%
6.76%
2,372
5,394
2,386
3,607
3,737
1.64%
-1.04%
1,029
270
1.57%
0.41%
635
657
2.11%
1.42%
2.01%
1,654
1,064
1,089
2.53%
1.63%
1.67%
1,552
997
902
2.76%
0.64%
2.79%
1.98%
0.57%
1,532
2,225
2,266
1,309
602
100.00% $ 65,441
2.34%
3.40%
3.46%
2.00%
0.92%
1,675
2,411
1,996
1,425
855
100.00% $ 58,053
3.18%
3.40%
-2.20%
60.79%
-2.27%
65.53%
4.09%
9.29%
4.11%
6.21%
6.44%
1.09%
1.13%
2.67%
1.72%
1.55%
2.89%
4.15%
3.44%
2.45%
1.47%
100.00%
3.43%
-2.30%
67.23%
The Company’s results reflect a drop of $215,000, or 1%, in total noninterest income in 2018, relative to an increase
of $2.541 million, or 13%, in 2017 over 2016. Both 2018 and 2017 include core increases resulting from growth, as
discussed in greater detail below, but several items of a nonrecurring nature have also had a significant impact over
the past few years. For 2018, nonrecurring noninterest income is comprised primarily of the $1.183 million write-up
of our investment in Pacific Coast Bankers Bank (“PCBB”) and a $161,000 special dividend received pursuant to our
equity investment in the Federal Home Loan Bank of San Francisco (“FHLB”), net of a $915,000 adjustment to
accelerate expense amortization associated with tax credit investments (which is netted out of revenue). In 2017,
nonrecurring income includes $500,000 in net gains on the sale of investments, $503,000 in life insurance proceeds,
and $323,000 in gains from the dissolution of a low-income housing tax credit fund investment, while 2016 includes
$223,000 in gains on the sale of investments, $481,000 in life insurance proceeds, and $276,000 in FHLB special
dividends. Moreover, while not technically characterized as a nonrecurring item, there were large fluctuations in
BOLI income over the last three years, due primarily to varying levels of income on BOLI associated with deferred
compensation plans. Total noninterest income was 0.98% of average interest-earning assets in 2018, relative to 1.13%
in 2017 and 1.14% in 2016. The ratio has been trending lower due in part to a rising balance of interest-earning assets.
The principal component of the Company’s noninterest revenue, service charges on deposit accounts, increased by
$1.209 million, or 11%, in 2018 over 2017, and by $1.079 million, or 11%, in 2017 relative to 2016, due to fees earned
on a higher number of deposit accounts and additional fees on certain higher-risk commercial accounts. The 2018
variance was also impacted by the reclassification of certain income from other service charges and fees to deposit
service charges starting in the third quarter of 2017, with the adjustment boosting service charges on deposits by about
$200,000 for 2018 relative to 2017. The Company’s ratio of service charge income to average transaction account
balances was 1.0% in 2018 and 2017, down slightly from 1.1% in 2016.
The line item immediately following service charges on deposits is checkcard fees, consisting of interchange fees
from our customers’ use of debit cards for electronic funds transactions. This category increased by $923,000, or
19%, in 2018 over 2017, and by $488,000, or 11%, in 2017 over 2016 as a result of growth in our deposit account
base, including the addition of accounts pursuant to acquisitions. Other service charges and fees, which also consti-
tute a relatively large portion of noninterest income, increased by $1.167 million, or 29%, in 2018 over 2017, and by
$187,000, or 5%, in 2017 over 2016. The increase for 2018 includes the impact of the $1.183 million write-up of our
PCBB investment and the $161,000 special dividend from the FHLB in 2018, offset by $200,000 due to the income
reclassification noted in the previous paragraph. The increase in this category in 2017 reflects a stronger volume of
fee-generating activities.
BOLI income fell by $1.049 million, or 64%, in 2018 over 2017 but increased by $646,000, or 65%, in 2017 over
2016. BOLI income is derived from two types of policies owned by the Company, namely “separate account” and
“general account” life insurance, and the year over year variances are due in large part to fluctuations in income on
separate account BOLI. The Company had $6.6 million invested in separate account BOLI at December 31, 2018,
which produces income that helps offset expense accruals for deferred compensation accounts the Company main-
tains on behalf of certain directors and senior officers. Those accounts have returns pegged to participant-directed
investment allocations that can include equity, bond, or real estate indices, and are thus subject to gains or losses which
often contribute to significant fluctuations in income (and associated expense accruals). Losses on separate account
BOLI totaled $381,000 in 2018, relative to gains of $690,000 in 2017 and $151,000 in 2016. This resulted in a
negative variance of $1.071 million in 2018 over 2017, and an increase of $539,000 in 2017 over 2016. As noted,
gains and losses on separate account BOLI are related to expense accruals or reversals associated with participant
gains and losses on deferred compensation balances, thus their net impact on taxable income tends to be minimal. The
Company’s books also reflect a net cash surrender value of $41.6 million for general account BOLI at year-end 2018.
General account BOLI produces income that is used to help offset expenses associated with executive salary
continuation plans, director retirement plans and other employee benefits. Interest credit rates on general account
BOLI do not change frequently so the income has typically been fairly consistent. While rate reductions and an
increase in the cost of insurance for certain policies created downward pressure on general account BOLI income over
the past few years, the average income crediting rate improved in 2017 due to the termination of a high-cost policy in
late 2016. Furthermore, the Ojai acquisition included over $2 million in BOLI, thus income on general account BOLI
reflects small increases for 2018 and 2017.
The Company realized only $2,000 in gains on investments in 2018, but as previously referenced we realized net gains
on the sale of investments of $500,000 in 2017 and $223,000 in 2016. The next line item reflects pass-through
35
expenses associated with our investments in low-income housing tax credit funds and other limited partnerships.
Those expenses, which are netted out of revenue, increased by $1.600 million, or 166%, in 2018 over 2017, and by
$17,000, or 2%, in 2017 relative to 2016. The largest contribution to the unfavorable variance in 2018 over 2017
came from a $915,000 adjustment to accelerate expense amortization on our tax credit investments, to ensure that the
book value of each investment does not exceed its projected remaining tax benefits. However, variances in both 2018
and 2017 were also impacted by expense amortization for newer investments and a gain of $323,000 realized in 2017
from the dissolution of one of our earliest tax credit investment funds.
Other noninterest income includes gains and losses on the disposition of assets other than OREO, rent on bank-owned
property other than OREO, life insurance proceeds, loan servicing income (net of amortization expense on our
servicing asset), and other miscellaneous income. There was a drop of $367,000 in other noninterest income in 2018
relative to 2017, due to nonrecurring life insurance proceeds totaling $503,000 recorded in 2017. The category also
declined by $119,000 in 2017 relative to 2016, due to the disposition of certain fixed assets at a loss in 2017. As noted
above, life insurance proceeds totaled $503,000 in 2017 relative to $481,000 in 2016, for an immaterial difference.
Total operating expense, or noninterest expense, increased by $4.583 million, or 7%, in 2018 over 2017, and by $7.388
million, or 13%, in 2017 relative to 2016. The increase for 2018 is due primarily to a full year of operating costs
associated with the Ojai whole-bank acquisition and a partial year of costs for the Lompoc branch acquisition, offset
in part by favorable swings of $1.000 million in net foreclosed asset costs and $698,000 in directors deferred
compensation expense (related to the drop in BOLI income). The increase for 2017 is also comprised in large part of
ongoing operating costs incidental to our acquisitions and de novo branch expansion. Noninterest expense includes
the following items of a nonrecurring nature: for 2018, net foreclosed asset costs of negative $730,000 due to gains
on the sale of OREO, and acquisition costs of $449,000; for 2017, acquisition costs of $2.225 million, lending-related
costs totaling about $300,000, and net OREO expense of $270,000; and, for 2016, acquisition costs of $2.411 million,
net OREO expense of $657,000, and a nonrecurring expense reversal of $173,000 in director retirement plan accruals
subsequent to the death of a former director and the payment of split-dollar life insurance proceeds to his beneficiary.
Noninterest expense was 3.18% of average earning assets in 2018, relative to 3.40% in 2017 and 3.43% for 2016. The
downward trend is due in part to growth in average earning assets, and the ratios were also impacted by OREO gains
in 2018 and higher acquisition costs in 2017 and 2016.
The largest component of operating expense, salaries and employee benefits, was up by $4.627 million, or 15%, in
2018 over 2017 and $4.054 million, or 15%, in 2017 over 2016. Personnel costs increased in 2018 due to a full year
of costs for employees retained subsequent to our acquisitions in 2017 and offices opened in 2017, staffing costs for
the Lompoc branch acquired in 2018, salary adjustments in the normal course of business, and an increase of $593,000,
or 23%, in group health insurance costs. The increase for 2017 is due mainly to expenses for employees retained
subsequent to our acquisitions, staffing costs for branch offices that commenced operations in 2017, and higher costs
for temporary employees and overtime related to the Ojai whole-bank and Woodlake branch acquisitions and system
conversions, but also includes salary adjustments in the normal course of business, costs for non-acquisition related
staff additions, a relatively large increase in group health insurance costs, and higher equity incentive compensation
expense related to stock options. Components of compensation expense that can experience significant variability
and are typically difficult to predict include salaries associated with successful loan originations, which are account-
ed for in accordance with Financial Accounting Standards Board (“FASB”) guidelines on the recognition and meas-
urement of non-refundable fees and origination costs for lending activities, and accruals associated with employee
deferred compensation plans. Loan origination salaries that were deferred from current expense for recognition over
the life of related loans totaled $4.173 million in 2018, $3.854 million for 2017, and $3.430 million for 2016, with the
fluctuations due to variability in successful organic loan origination activity. Employee deferred compensation
expense accruals totaled only $7,000 for 2018, relative to $217,000 in 2017 and $141,000 in 2016. As noted above
in our discussion of BOLI income, employee deferred compensation plan accruals are related to separate account
BOLI income and losses, as are directors deferred compensation accruals that are included in “other professional
services,” and the net income impact of all income/expense accruals related to deferred compensation is usually
minimal. Salaries and benefits were 51.61% of total operating expense in 2018, relative to 48.14% in 2017 and 47.30%
in 2016. The number of full-time equivalent staff employed by the Company totaled 541 at the end of 2018, 556 at
the end of 2017, and 479 at the end of 2016. The reduction in 2018 came from efficiency initiatives implemented
toward the end of the year and more open positions, partially offset by staff additions related to the Lompoc branch
acquisition. The increase in 2017 over 2016 is due to the addition of former Ojai Community Bank employees and
36
Woodlake branch staff, personnel for de novo branches opened in 2017, and certain back office additions deemed
necessary to ensure a continued high level of customer service.
Total rent and occupancy expense, including furniture and equipment costs, increased by $705,000, or 7%, in 2018
over 2017, compared to $1.824 million, or 23%, in 2017 over 2016. The increase for 2018 includes the impact of the
acquisition and de novo branch offices, and was also due in part to an accrual adjustment that inflated rent expense in
2017. The increase in 2017 was primarily the result of expenses associated with locations added during the year,
including certain non-recurring start-up costs associated with outfitting new branches, but it also includes inflationary
increases related to other locations and the impact of expense accrual adjustments in 2017.
Advertising and promotion costs were up by $234,000, or 9%, in 2018 over 2017 and $128,000, or 5%, in 2017 over
2016. The increases are mainly the result of marketing efforts targeting our expanded geography, and other promo-
tional expenses associated with opening new branches. Data processing costs increased by $650,000, or 15%, in 2018
over 2017 and $758,000, or 21%, in 2017 compared to 2016. The increase in 2018 is primarily from additional core
processing costs and other software costs associated with Bank expansion. The increase in 2017 is from ongoing
expenses related to our acquisitions and new branches, but also includes costs associated with an online lending plat-
form that was implemented at the beginning of 2017. Deposit services costs also increased by $987,000, or 22%, in
2018 over 2017 and $689,000, or 18%, in 2017 over 2016. As with data processing costs, much of the increase in
deposit costs is the result of ongoing expenses associated with our acquisitions, including operational costs and
amortization expense on our core deposit intangible, as well as expenses for other new offices. Deposit costs were
further impacted by increases in debit card processing costs due to higher activity levels.
Loan services costs are comprised of loan processing costs, and net costs associated with foreclosed assets. Loan pro-
cessing costs, which include expenses for property appraisals and inspections, loan collections, demand and fore-
closure activities, loan servicing, loan sales, and other miscellaneous lending costs, increased by $113,000, or 11%,
in 2018 over 2017 and $394,000, or 62%, in 2017 relative to 2016. The increase in 2018 resulted from a higher level
of appraisal, inspection and credit reporting costs incidental to more robust lending activity as well as a $90,000
increase in our reserve for unfunded commitments, but the variance was also favorably impacted by $300,000 in
nonrecurring lending costs in 2017, as noted above. The increase in 2017 over 2016 is due primarily to those
nonrecurring lending costs, but it also includes costs related to an increase in lending activity. Foreclosed assets costs
are comprised of write-downs taken subsequent to reappraisals, OREO operating expense (including property taxes),
and losses on the sale of foreclosed assets, net of rental income on OREO properties and gains on the sale of foreclosed
assets. Those costs reflect reductions of $1.000 million in 2018 relative to 2017, and $387,000 in 2017 over 2016.
The drop for 2018 resulted mainly from a $1.367 million increase in gains on OREO sales, net of a $343,000 increase
in OREO write-downs. The decline in 2017 came primarily in lower OREO write-downs relative to 2016.
The “other operating costs” category includes telecommunications expense, postage, and other miscellaneous costs.
Telecommunications expense was $175,000 lower in 2018 than in 2017, an 11% decline due to focused expense
reduction efforts, but costs increased by $102,000, or 7%, in 2017 relative to 2016 due mainly to expenses associated
with branch expansion. Postage expense also dropped by $67,000, or 6%, in 2018 relative to 2017 due to efficiency
initiatives implemented in 2018, but increased by $67,000, or 7%, in 2017 over 2016 due mainly to statements and
disclosures mailed to an expanding customer base. The “Other” category under other operating costs was up by
$319,000, or 29%, in 2018 over 2017 due to higher consulting and training costs, and by $187,000, or 21%, in 2017
over 2016 due primarily to higher travel costs, which rose in connection with our acquisitions and conversions, de
novo branches, and increased frequency of offsite meetings.
Legal and accounting costs increased by $400,000, or 26%, in 2018 over 2017, primarily as a result of higher audit
and tax costs and higher legal costs associated with collections. The increase in audit and tax costs resulted in part
from an expense accrual reversal of $140,000 in 2017, resulting from an accrual carried over from the previous year
that was ultimately not needed. Legal and accounting costs declined $143,000, or 9%, in 2017 relative to 2016, since
the accrual adjustment in 2017 and lower collections-related legal costs offset increases in other areas. Acquisition
costs, or one-time expenses directly attributable to our whole-bank and branch acquisitions, totaled $449,000 in 2018,
relative to $2.225 million in 2017 and $2.411 million in 2016. Acquisition costs are comprised primarily of
termination fees for core processing contracts and certain other contracts, software conversion costs, financial advisor
fees, legal costs, severance and retention amounts paid to employees of the acquired institutions, and the write-off of
furniture, fixtures and equipment that were not utilized by the Company.
37
Other professional services costs include FDIC assessments and other regulatory expenses, directors’ costs, and certain
insurance costs among other things. This category declined by $310,000, or 14%, in 2018 relative to 2017, but
increased by $270,000, or 14%, in 2017 over 2016. The drop in 2018 stems from a favorable swing of $698,000 in
director’s deferred compensation expense, which more than offset higher FDIC costs and corporate insurance
premiums. The increase in 2017 includes higher director’s deferred compensation expense, an increase stemming
from a nonrecurring reversal of $173,000 in director retirement plan accruals in 2016, and higher stock option expense,
partially offset by lower regulatory assessments. As with deferred compensation accruals for employees, directors’
deferred compensation expense is related to separate account BOLI income and losses, and the net income impact of
all income/expense accruals related to deferred compensation is usually minimal. Directors’ deferred compensation
expense reflects an expense reversal of $100,000 in 2018 resulting from losses on deferred compensation plans, as
compared to expense accruals totaling $598,000 in 2017 and $173,000 in 2016.
Stationery and supply costs increased by $78,000, or 6%, in 2018 over 2017, but fell by $116,000, or 8%, in 2017
compared to 2016. The increase in 2018 reflects expenses associated with Bank expansion. Stationery and supply
costs for 2017 also reflect additional expenses for a larger number of branches, but the variance relative to 2016 was
favorably impacted by costs associated with the issuance of new debit cards incorporating EMV technology in 2016.
Sundry and teller costs reflect reductions of $202,000, or 34% in 2018 as compared to 2017, and $253,000, or 30%,
in 2017 relative to 2016 due to reduced debit card losses and lower operations-related losses.
The Company’s tax-equivalent overhead efficiency ratio was 60.79% in 2018, relative to 65.52% in 2017 and 67.23%
in 2016. The overhead efficiency ratio represents total noninterest expense divided by the sum of fully tax-equivalent
net interest and noninterest income, with the provision for loan losses and investment gains/losses excluded from the
equation. The ratio was relatively low in 2018 due in part to nonrecurring OREO gains, and it was higher in 2017 and
2016 due in part to non-recurring acquisition costs incurred in those periods.
Income Taxes
Our income tax provision was $9.907 million, or 25% of pre-tax income in 2018, relative to provisions of $13.640
million, or 41% of pre-tax income in 2017 and $8.800 million, or 33% of pre-tax income in 2016. The tax accrual
rate dropped in 2018 because of a lower federal income tax rate. The tax accrual rate for 2017 was higher than in
2016 primarily because of the $2.710 million deferred tax asset revaluation charge, but it also reflects higher taxable
income relative to available tax credits.
The Company sets aside a provision for income taxes on a monthly basis. The amount of that provision is determined
by first applying the Company’s statutory income tax rates to estimated taxable income, which is pre-tax book income
adjusted for permanent differences, and then subtracting available tax credits. Permanent differences include but are
not limited to tax-exempt interest income, BOLI income, and certain book expenses that are not allowed as tax
deductions. The Company’s investments in state, county and municipal bonds provided $4.060 million in federal tax-
exempt income in 2018, $3.711 million in 2017, and $3.009 million in 2016. Moreover, in addition to life insurance
proceeds of $503,000 in 2017 and $481,000 in 2016, net increases in the cash surrender value of bank-owned life
insurance added $591,000 to tax-exempt income in 2018, $1.640 million in 2017 and $994,000 in 2016.
Our tax credits consist primarily of those generated by investments in low-income housing tax credit funds, and
California state employment tax credits. We had a total of $5.9 million invested in low-income housing tax credit
funds as of December 31, 2018, which are included in other assets rather than in our investment portfolio. Those
investments have generated substantial tax credits over the past few years, with about $632,000 in credits available
for the 2018 tax year, $711,000 in tax credits utilized in 2017, and $686,000 in tax credits utilized in 2016. The credits
are dependent upon the occupancy level of the housing projects and income of the tenants, and cannot be projected
with certainty. Furthermore, our capacity to utilize them will continue to depend on our ability to generate sufficient
pre-tax income. We plan to invest in additional tax credit funds in the future, but if the economics of such transactions
do not justify continued investments then the level of low-income housing tax credits will taper off in future years
until they are substantially utilized by the end of 2028. That means that even if taxable income stayed at the same
level through 2028, our tax accrual rate would gradually increase.
38
Financial Condition
Assets totaled $2.523 billion at the end of 2018, reflecting an increase of $182 million, or 8%, for the year due
primarily to an increase of $174 million, or 11%, in gross loan balances. Deposits were up $128 million, or 6%, while
non-deposit borrowings, including junior subordinated debentures, were increased by $43 million, or 66%. Total
capital increased by $17 million, or 7%. The major components of the Company’s balance sheet are individually
analyzed below, along with information on off-balance sheet activities and exposure.
Loan and Lease Portfolio
The Company’s loan and lease portfolio represents the single largest portion of invested assets, substantially greater
than the investment portfolio or any other asset category, and the quality and diversification of the loan and lease
portfolio are important considerations when reviewing the Company’s financial condition.
The Selected Financial Data table in Item 6 above reflects the amount of loans and leases outstanding at December
31st for each year from 2018 back to 2014, net of deferred fees and origination costs and the allowance for loan and
lease losses. The Loan and Lease Distribution table that follows sets forth by loan type the Company’s gross loans
and leases outstanding, and the percentage distribution in each category at the dates indicated. The balances for each
loan type include nonperforming loans, if any, but do not reflect any deferred or unamortized loan origination,
extension, or commitment fees, or deferred loan origination costs. Although not reflected in the loan totals below and
not currently comprising a material part of our lending activities, the Company also occasionally originates and sells,
or participates out portions of, loans to non-affiliated investors.
39
Loan and Lease Distribution
(dollars in thousands)
Real estate:
1-4 family residential
construction ............................... $
Other construction/land.............
1-4 family - closed-end .............
Equity lines................................
Multi-family residential ............
Commercial real estate - owner
occupied ....................................
Commercial real estate - non-
owner occupied .........................
Farmland ...................................
2018
2017
As of December 31,
2016
2015
2014
$
$
105,676
109,023
236,825
56,320
54,877
74,256
58,779
204,766
62,590
42,930
32,417
40,650
137,143
43,443
31,631
$
$
14,941
37,359
137,356
44,233
27,222
5,858
19,908
114,259
49,717
18,718
301,324
263,447
253,535
218,708
218,654
438,344
151,541
Total real estate.................... 1,453,930
49,103
128,220
91,813
8,862
Total loans and leases ........ $ 1,731,928
Agricultural.....................................
Commercial and industrial..............
Mortgage warehouse lines ..............
Consumer loans ..............................
379,432
140,516
1,226,716
46,796
135,662
138,020
10,626
$ 1,557,820
244,198
134,480
917,497
46,229
123,595
163,045
12,165
$ 1,262,531
165,107
133,182
778,108
46,237
113,207
180,355
14,949
$ 1,132,856
$
132,077
145,039
704,230
27,746
113,771
106,021
18,885
970,653
Percentage of Total Loans and
Leases
Real estate:
1-4 family residential
construction ...............................
Other construction/land.............
1-4 family - closed-end .............
Equity lines................................
Multi-family residential ............
Commercial real estate - owner
occupied ....................................
Commercial real estate - non-
owner occupied .........................
Farmland ...................................
Total real estate....................
Agricultural.....................................
Commercial and industrial..............
Mortgage warehouse lines ..............
Consumer loans ..............................
6.10%
6.29%
13.67%
3.25%
3.17%
4.77%
3.77%
13.14%
4.02%
2.76%
2.57%
3.22%
10.86%
3.44%
2.51%
1.32%
3.30%
12.12%
3.90%
2.40%
0.60%
2.05%
11.77%
5.12%
1.93%
17.40%
16.91%
20.08%
19.31%
22.53%
25.32%
8.75%
83.95%
2.84%
7.40%
5.30%
0.51%
100.00%
24.36%
9.02%
78.75%
3.00%
8.71%
8.86%
0.68%
100.00%
19.34%
10.65%
72.67%
3.66%
9.79%
12.91%
0.96%
100.00%
14.57%
11.76%
68.69%
4.08%
9.99%
15.92%
1.32%
100.00%
13.61%
14.94%
72.55%
2.86%
11.72%
10.92%
1.95%
100.00%
The Company has experienced net growth in loan and lease balances in each of the last five years, despite fluctuations
caused by variability in outstanding balances on mortgage warehouse lines, reductions associated with the resolution
of impaired loans, weak loan demand in some years, tightened underwriting standards, and intense competition. This
growth is due in part to acquisitions, including Santa Clara Valley Bank in 2014, Coast National Bank in 2016 and
Ojai Community Bank in 2017, as well as whole loan purchases and participations. Organic loan growth has also
been relatively robust in recent periods, particularly with regard to commercial real estate and construction loans.
For 2018, gross loans were up by $174 million, or 11%, due to strong growth in real estate loans net of a $46 million
reduction in outstanding balances on mortgage warehouse lines. Total real estate loans increased by $227 million, or
19%, primarily from organic growth, but the increase also includes the first quarter bulk purchase of single-family
40
mortgage loans which had a balance of $11 million at the time of purchase. Agricultural production loans were also
up $2 million, or 5%. Commercial loans, however, reflect a net drop of $7 million, or 5%, and outstanding balances
on mortgage warehouse lines declined by $46 million, or 33%, as the utilization rate on those lines dropped to 23% at
December 31, 2018 from 34% at December 31, 2017. Mortgage lending activity is highly correlated with changes in
interest rates and refinancing activity and has historically been subject to significant fluctuations, so no assurance can
be provided with regard to our ability to maintain or grow mortgage warehouse balances. Consumer loans also fell
by $2 million, or 17%, during 2018.
Management remains focused on organic loan growth, which combined with strong economic activity in some of our
markets led to record levels for our pipeline of loans in process of approval in recent periods. However, no assurance
can be provided with regard to future net growth in aggregate loan balances since we are still experiencing occasional
surges in prepayments in addition to significant fluctuations in mortgage warehouse lending, and the market for top-
quality loans remains extremely competitive.
Loan and Lease Maturities
The following table shows the maturity distribution for total loans and leases outstanding as of December 31, 2018,
including non-accruing loans, grouped by remaining scheduled principal payments:
Loans and Lease
Maturity
(dollars in thousands)
Three months
Floating rate: Fixed rate:
As of December 31, 2018
Three months
or less
to twelve
months
One to five Over five
years
years
Total
85,113 $
5,183
97,893 $ 131,018 $1,139,906 $1,453,930 $
49,103
35,124
5,957
2,839
due after
one
year
due after one
year
956,625 $ 314,299
1,177
7,619
9,798
31,655
41,744
45,023
128,220
34,990
51,777
8,173
955
109,222 $
61,369
674
22,271
6,093
226,715 $ 204,649 $1,191,342 $1,731,928 $ 1,000,374 $ 395,617
22,271
3,659
91,813
8,862
—
1,140
—
3,574
Real estate .................. $
Agricultural ................
Commercial and
industrial ....................
Mortgage warehouse
lines ............................
Consumer loans..........
Total...................... $
For a comprehensive discussion of the Company’s liquidity position, balance sheet repricing characteristics, and sen-
sitivity to interest rates changes, refer to the “Liquidity and Market Risk” section of this discussion and analysis.
Off-Balance Sheet Arrangements
The Company maintains commitments to extend credit in the normal course of business, as long as there are no vio-
lations of conditions established in the outstanding contractual arrangements. Unused commitments to extend credit
totaled $782 million at December 31, 2018 and $692 million at December 31, 2017, although it is not likely that all
of those commitments will ultimately be drawn down. The relatively large increase during 2018 is due in part to a
higher level of construction loans, which fund incrementally rather than immediately at booking, and lower utiliza-
tion on mortgage warehouse lines. Unused commitments represented approximately 45% of gross loans outstanding
at December 31, 2018 and 44% at December 31, 2017. The Company also had undrawn letters of credit issued to
customers totaling $9 million at December 31, 2018 and 2017. Off-balance sheet obligations pose potential credit risk
to the Company, and a $384,000 reserve for unfunded commitments is reflected as a liability in our consolidated
balance sheet at December 31, 2018, up from $334,000 at December 31, 2017. The effect on the Company’s revenues,
expenses, cash flows and liquidity from the unused portion of the commitments to provide credit cannot be reasonably
predicted because there is no guarantee that the lines of credit will ever be used. However, the “Liquidity” section in
this Form 10-K outlines resources available to draw upon should we be required to fund a significant portion of unused
commitments.
41
In addition to unused commitments to provide credit, the Company is utilizing a $95 million letter of credit issued by
the Federal Home Loan Bank on the Company’s behalf as security for certain deposits and to facilitate certain credit
arrangements with the Company’s customers. That letter of credit is backed by loans which are pledged to the FHLB
by the Company. For more information regarding the Company’s off-balance sheet arrangements, see Note 12 to the
consolidated financial statements in Item 8 herein.
Contractual Obligations
At the end of 2018, the Company had contractual obligations for the following payments, by type and period due:
Contractual Obligations
(dollars in thousands)
Total
Less Than
1 Year
1-3 Years
3-5 Years
More Than
5 Years
Payments Due by Period
Subordinated debentures.... $
Operating leases.................
Other long-term
obligations..........................
Total ............................. $
34,767 $
13,003
3,773
51,543 $
— $
2,190
842
3,032 $
— $
5,755
1,067
6,822 $
— $
2,452
31
2,483 $
34,767
2,606
1,833
39,206
Nonperforming Assets
Nonperforming assets (“NPAs”) are comprised of loans for which the Company is no longer accruing interest, and
foreclosed assets including mobile homes and OREO. If the Company grants a concession to a borrower in financial
difficulty, the loan falls into the category of a troubled debt restructuring (“TDR”), which may be designated as either
nonperforming or performing depending on the loan’s accrual status.
42
The following table presents comparative data for the Company’s NPAs and performing TDRs as of the dates noted:
Nonperforming Assets and Performing TDRs
(dollars in thousands)
2018
2017
As of December 31,
2016
2015
2014
Real estate:
Other construction/land....................................... $
1-4 family - closed-end .......................................
Equity lines .........................................................
Multi-family residential ......................................
Commercial real estate - owner occupied...........
Commercial real estate - non-owner occupied ...
Farmland .............................................................
TOTAL REAL ESTATE
Agricultural ..............................................................
Commercial and industrial .......................................
Consumer loans ........................................................
TOTAL NONPERFORMING LOANS (1)
$
82
799
408
—
605
49
1,642
3,585
—
1,425
146
5,156
$
$
77
871
922
—
236
123
293
2,522
—
1,301
140
3,963
$
$
558
963
1,926
—
1,572
67
39
5,125
89
692
459
6,365
$
$
457
2,298
1,770
630
2,325
262
610
8,352
—
710
572
9,634
$
3,547
3,042
1,049
171
3,417
7,754
51
19,031
—
821
826
$ 20,678
Foreclosed assets ......................................................
1,082
6,238
Total nonperforming assets ...................................... $
Performing TDRs (1) ................................................. $ 11,005
Nonperforming loans as a % of total gross loans
and leases..................................................................
Nonperforming assets as a % of total gross loans
and leases and foreclosed assets...............................
0.30%
0.36%
5,481
9,444
$
$ 12,413
2,225
8,590
$
$ 14,182
3,193
$ 12,827
$ 12,431
3,991
$ 24,669
$ 12,359
0.25%
0.50%
0.85%
2.13%
0.60%
0.68%
1.13%
2.53%
(1)
Performing TDRs are not included in nonperforming loans above, nor are they included in the numerators used
to calculate the ratios disclosed in this table.
NPAs totaled $6.2 million, or 0.36% of gross loans and leases plus foreclosed assets at the end of 2018, down from
$9.4 million, or 0.60% of gross loans and leases plus foreclosed assets at the end of 2017. NPAs were reduced by
$3.2 million, or 34%, during 2018, and the decline is even more dramatic when looking further back in time. This
reduction has occurred in response to better economic conditions and our continuous efforts to improve credit quality.
Not reflected in the period-end numbers is the addition of a $10 million purchased participation loan to nonperforming
loans in August 2018. That loan was written down by a total of $2.4 million, and was ultimately transferred to OREO
and sold in the fourth quarter of 2018.
The contraction in NPAs in 2018 includes a drop in foreclosed assets of $4.4 million, but nonperforming loans
increased by $1.2 million, or 30%, ending the year with a balance of $5.2 million. Nonperforming loans secured by
real estate comprised $3.6 million of total nonperforming loans at December 31, 2018, up by $1.1 million, or 42%,
since December 31, 2017. The balance of nonperforming commercial loans also increased by $124,000, or 10%,
during 2018, ending the period at $1.4 million. We have no reason to believe that there will be additional material
increases in nonperforming real estate or commercial loans in the near term, but no assurance can be provided in that
regard. Nonperforming loan balances at December 31, 2018 include $1.4 million in TDRs and other loans that were
paying as agreed, but which met the technical definition of nonperforming and were classified as such. We also had
$11.0 million in loans classified as performing TDRs for which we were still accruing interest at December 31, 2018,
a drop of $1.4 million, or 11%, relative to December 31, 2017. Notes 2 and 4 to the consolidated financial statements
provide a more comprehensive disclosure of TDR balances and activity within recent periods.
The balance of foreclosed assets had a carrying value of $1.1 million at December 31, 2018, comprised of 11 prop-
erties classified as OREO. At the end of 2017 foreclosed assets totaled $5.5 million, consisting of 13 properties
classified as OREO and three mobile homes. The $4.4 million reduction in OREO is due in large part to the sale of a
$3.1 million property that was in OREO at Ojai Community Bank prior to the acquisition, but also includes OREO
43
write-downs toaling $439,000 and the sale of other properties. All foreclosed assets are periodically evaluated and
written down to their fair value less expected disposition costs, if lower than the then-current carrying value. An
action plan is in place for each of our non-accruing loans and foreclosed assets and they are all being actively managed.
Collection efforts are continuously pursued for all nonperforming loans, but no assurance can be provided that they
will be resolved in a timely manner or that nonperforming balances will not increase.
Allowance for Loan and Lease Losses
The allowance for loan and lease losses, a contra-asset, is established through a provision for loan and lease losses. It
is maintained at a level that is considered adequate to absorb probable losses on specifically identified impaired loans,
as well as probable incurred losses inherent in the remaining loan portfolio. Specifically identifiable and quantifiable
losses are immediately charged off against the allowance; recoveries are generally recorded only when sufficient cash
payments are received subsequent to the charge off. Note 2 to the consolidated financial statements provides a more
comprehensive discussion of the accounting guidance we conform to and the methodology we use to determine an
appropriate allowance for loan and lease losses.
The Company’s allowance for loan and lease losses was $9.8 million, or 0.56% of gross loans at December 31, 2018,
relative to $9.0 million, or 0.58% of gross loans at December 31, 2017. The increase in the allowance resulted from
the addition of a $4.4 million loan loss provision in 2018, less $3.6 million in net loan charge-offs. Reserves were
established for losses inherent in incremental loan balances and unanticipated charge-offs in 2018, including $2.4
million related to the large purchased participation loan already discussed. The net increase in the allowance might
have been even larger if not for the following circumstances: many charge-offs were recorded against pre-established
reserves, which alleviated what otherwise might have been a need for reserve replenishment; all acquired loans were
booked at their fair values, and thus did not initially require a loan loss allowance; loan loss rates have been declining,
having a positive impact on general reserves established for performing loans; and, new loans booked during and since
the great recession have been underwritten using tighter credit standards than was the case for many legacy loans.
The ratio of the allowance to nonperforming loans was 189.10% at December 31, 2018, relative to 228.19% at
December 31, 2017 and 152.41% at December 31, 2016. A separate allowance of $384,000 for potential losses
inherent in unused commitments is included in other liabilities at December 31, 2018.
44
The table that follows summarizes the activity in the allowance for loan and lease losses for the periods indicated:
Allowance for Loan and Lease Losses
(dollars in thousands)
Balances:
Average gross loans and leases outstanding during period ........... $ 1,625,732
2018
As of and for the years ended December 31,
2016
$ 1,153,240
2015
$ 1,027,983
2017
$ 1,318,909
2014
$ 1,027,983
Gross loans and leases held for investment ................................... $ 1,731,928
$ 1,557,820
$ 1,262,531
$ 1,132,856
$
970,653
Allowance for Loan and Lease Losses:
Balance at beginning of period ...................................................... $
Provision charged to expense ........................................................
Charge-offs
Real estate:
1-4 family residential construction ..................................
Other construction/land....................................................
1-4 family - closed-end ....................................................
Equity lines ......................................................................
Multi-family residential ...................................................
Commercial real estate - owner occupied ........................
Commercial real estate - non-owner occupied.................
Farmland ..........................................................................
TOTAL REAL ESTATE
Agricultural ......................................................................
Commercial and industrial ...............................................
Mortgage warehouse lines ...............................................
Consumer loans................................................................
Total ........................................................................................
Recoveries
Real estate:
1-4 family residential construction ..................................
Other construction/land....................................................
1-4 family - closed-end ....................................................
Equity lines ......................................................................
Multi-family residential ...................................................
Commercial real estate - owner occupied ........................
Commercial real estate - non-owner occupied.................
Farmland ..........................................................................
TOTAL REAL ESTATE
Agricultural ......................................................................
Commercial and industrial ...............................................
Mortgage warehouse lines ...............................................
Consumer loans................................................................
Total ........................................................................................
Net loan (recoveries) charge offs...................................................
Balance .......................................................................................... $
RATIOS
Net loan and lease charge-offs to average loans and leases ..........
Allowance for loan and lease losses to gross loans and
leases at end of period.................................................................
Allowance for loan losses to non-performing loans ......................
Net loan and lease charge-offs to allowance for loan losses
at end of period ...........................................................................
Net loan charge-offs to provision for loan and lease losses ..........
$
9,043
4,350
9,701
(1,140)
$
10,423
—
$
11,248
—
$
11,677
350
—
4
5
125
—
—
2,341
—
2,475
—
608
—
2,225
5,308
—
—
10
134
—
230
—
—
374
22
148
—
1,121
1,665
3,643
9,750
$
—
—
7
58
—
36
—
—
101
154
669
—
2,161
3,085
—
5
1,959
32
—
38
201
—
2,235
5
310
—
1,017
3,567
(482)
9,043
$
—
144
97
94
50
108
469
—
962
—
344
—
1,905
3,211
—
467
15
17
—
35
449
—
983
14
477
—
1,015
2,489
722
9,701
$
—
73
224
92
—
318
—
—
707
—
395
—
1,738
2,840
—
117
93
189
—
106
246
—
751
81
225
—
958
2,015
825
10,423
$
—
135
431
828
—
171
45
19
1,629
124
625
—
1,837
4,215
38
702
317
273
—
504
79
—
1,913
6
801
—
716
3,436
779
11,248
0.22%
-0.04%
0.06%
0.08%
0.08%
0.56%
189.10%
0.58%
228.19%
0.77%
152.41%
0.92%
108.19%
1.16%
54.40%
37.36%
83.75%
-5.33%
42.28%
7.44%
—
7.92%
—
6.93%
222.57%
As shown in the table above, the Company recorded a loan loss provision of $4.350 million in 2018, relative to a
negative loan loss provision of $1.140 million in 2017 and no provision in 2016. As previously noted, there were net
charged off balances totaling $3.643 million in 2018, as compared to $482,000 in net recoveries on previously
charged-off balances in 2017 and net loan losses of $722,000 in 2016. Any shortfall in the allowance identified pur-
suant to our analysis of remaining probable losses is covered by quarter-end. Our allowance for probable losses on
specifically identified impaired loans was increased by $854,000, or 74%, during 2018, due to reserves required for
45
additions to nonperforming loans. The allowance for probable losses inherent in non-impaired loans was down by
$147,000, or 2%, as a result of continued credit quality improvement. The “Provision for Loan and Lease Losses”
section above includes additional details on our provision and its relationship to actual charge-offs.
Provided below is a summary of the allocation of the allowance for loan and lease losses for specific loan categories
at the dates indicated. The allocation presented should not be viewed as an indication that charges to the allowance
will be incurred in these amounts or proportions, or that the portion of the allowance allocated to a particular loan
category represents the total amount available for charge-offs that may occur within that category.
Allocation of Allowance for Loan and Lease Losses
(dollars in thousands)
2018
2017
2016
2015
2014
Amount
%Total (1)
Loans
Amount
%Total (1)
Loans
Amount
%Total (1)
Loans
Amount
%Total (1)
Loans
Amount
%Total (1)
Loans
As of December 31,
256
Real Estate ........ $5,831 83.95% $4,786 78.75% $3,548 72.67% $ 4,783 68.69% $ 6,243 72.55%
Agricultural.......
2.86%
Commercial and
industrial (2) ....... 2,394 12.70% 2,772 17.57% 4,279 22.71% 2,533 25.91% 1,944 22.64%
1.95%
Consumer loans 1,239
—
30
Unallocated.......
0.96% 1,263
1,122
1.32% 1,765
310
0.68% 1,208
457
0.51% 1,231
46
3.66%
3.00%
4.08%
2.84%
722
986
209
208
—
—
—
—
Total ............ $9,750 100.00% $9,043 100.00% $9,701 100.00% $10,423 100.00% $11,248 100.00%
(1)
(2)
Represents percentage of loans in category to total loans
Includes mortgage warehouse lines
The Company’s allowance for loan and lease losses at December 31, 2018 represents Management’s best estimate of
probable losses in the loan portfolio as of that date, but no assurance can be given that the Company will not experi-
ence substantial losses relative to the size of the allowance. Furthermore, fluctuations in credit quality, changes in
economic conditions, updated accounting or regulatory requirements, and/or other factors could induce us to augment
or reduce the allowance.
Investments
The Company’s investments can at any given time consist of debt securities and marketable equity securities (together,
the “investment portfolio”), investments in the time deposits of other banks, surplus interest-earning balances in our
Federal Reserve Bank (“FRB”) account, and overnight fed funds sold. Surplus FRB balances and fed funds sold to
correspondent banks typically represent the temporary investment of excess liquidity. The Company’s investments
serve several purposes: 1) they provide liquidity to even out cash flows from the loan and deposit activities of
customers; 2) they provide a source of pledged assets for securing public deposits, bankruptcy deposits and certain
borrowed funds which require collateral; 3) they constitute a large base of assets with maturity and interest rate
characteristics that can be changed more readily than the loan portfolio, to better match changes in the deposit base
and other funding sources of the Company; 4) they are another interest-earning option for surplus funds when loan
demand is light; and 5) they can provide partially tax exempt income. Aggregate investments totaled $562 million,
or 22% of total assets at December 31, 2018, compared to $567 million, or 24% of total assets at December 31, 2017.
We had no fed funds sold at the end of the reporting periods, and interest-bearing balances held primarily in our
Federal Reserve Bank account totaled $2 million at December 31, 2018 relative to $9 million at December 31, 2017.
The Company’s investment securities portfolio had a book balance of $560 million at December 31, 2018, reflecting
a net increase of $2 million for 2018. The Company carries investments at their fair market values. We currently
have the intent and ability to hold our investment securities to maturity, but the securities are all marketable and are
classified as “available for sale” to allow maximum flexibility with regard to interest rate risk and liquidity
management. The expected average life for bonds in our investment portfolio was 4.1 years and their average effec-
tive duration was 3.3 years at December 31, 2018, up slightly from an expected average life of 4.0 years and an average
effective duration of 3.1 years at year-end 2017.
46
The following Investment Portfolio table reflects the amortized cost and fair market values for each primary category
of investment securities for the past three years:
Investment Portfolio-Available for Sale
(dollars in thousands)
2018
As of December 31,
2017
2016
U.S. government agencies. $
Mortgage-backed
securities............................
State and political
subdivisions.......................
Equity securities ................
Total securities............. $
Amortized
Cost
15,553 $
Fair Market
Value
15,212 $
Amortized
Cost
21,524 $
Fair Market
Value
21,326 $
Amortized
Cost
26,926 $
Fair Market
Value
26,468
414,208
404,733
399,203
393,802
391,555
387,876
140,181
—
569,942 $
140,534
—
560,479 $
140,909
—
561,636 $
143,201
—
558,329 $
114,140
500
533,121 $
114,193
1,546
530,083
The net unrealized loss on our investment portfolio, or the amount by which aggregate fair market values fell short of
amortized cost, was $9 million at December 31, 2018, an increase of $6 million relative to the net unrealized loss of
$3 million at December 31, 2017. The change was caused by the adverse impact of rising market interest rates on
fixed-rate bond values. The balance of U.S. Government agency securities in our portfolio declined by $6 million, or
29%, during 2018 due primarily to bond maturities. Mortgage-backed securities increased by $11 million, or 3%, due
to bond purchases, net of prepayments in the portfolio and changes in fair market values. Municipal bond balances
were down $3 million, or 2%, as maturities/redemptions and declines in market valuations offset the impact of bond
purchases. Municipal bonds purchased in recent periods have strong underlying ratings, and all municipal bonds in
our portfolio undergo a detailed quarterly review for potential impairment.
Investment securities that were pledged as collateral for Federal Home Loan Bank borrowings, repurchase agree-
ments, public deposits and other purposes as required or permitted by law totaled $217 million at December 31, 2018
and $183 million at December 31, 2017, leaving $343 million in unpledged debt securities at December 31, 2018 and
$376 million at December 31, 2017. Securities that were pledged in excess of actual pledging needs and were thus
available for liquidity purposes, if needed, totaled $9 million at December 31, 2018 and $40 million at December 31,
2017.
47
The table below groups the Company’s investment securities by their remaining time to maturity as of December 31,
2018, and provides weighted average yields for each segment. Since the actual timing of principal payments may
differ from contractual maturities when obligors have the right to prepay principal, maturities for mortgage-backed
securities (including collateralized mortgage obligations) were determined by incorporating expected prepayments.
Maturity and Yield of Available for Sale Investment Portfolio
(dollars in thousands)
Within
One Year
Amount Yield
After One
But Within
Five Years
Amount
Yield
December 31, 2018
After Five Years
But Within
Ten Years
Amount Yield
After
Ten Years
Amount Yield
Total
Amount
Yield
497 1.50% $ 14,242 2.14% $
U.S.
government
agencies ............ $
Mortgage-
backed
securities........... 3,152 2.64% 382,049 2.38% 19,532 2.85%
State and
political
subdivisions...... 6,579 4.69% 13,861 4.27% 36,650 3.47% 83,444 3.64% 140,534 3.71%
473 3.49% $ — —
$ 15,212 2.16%
404,733 2.40%
— —
Total
securities ..... $10,228
Cash and Due from Banks
$410,152
$56,655
$83,444
$560,479
Interest-earning cash balances were discussed above in the “Investments” section, but the Company also maintains a
certain level of cash on hand in the normal course of business as well as non-earning deposits at other financial
institutions. Our balance of cash and due from banks depends on the timing of collection of outstanding cash items
(checks), the amount of cash held at our branches and our reserve requirement, among other things, and is subject to
significant fluctuations in the normal course of business. While cash flows are normally predictable within limits,
those limits are fairly broad and the Company manages its short-term cash position through the utilization of over-
night loans to, and borrowings from, correspondent banks, including the Federal Reserve Bank and the Federal Home
Loan Bank. Should a large “short” overnight position persist for any length of time, the Company typically raises
money through focused retail deposit gathering efforts or by adding brokered time deposits. If a “long” position is
prevalent, we will let brokered deposits or other wholesale borrowings roll off as they mature, or we might invest
excess liquidity into longer-term, higher-yielding bonds. The Company’s balance of noninterest earning cash and
balances due from correspondent banks totaled $72 million, or 3% of total assets at December 31, 2018, and $61
million, or 3% of total assets at December 31, 2017. The average balance of non-earning cash and due from banks,
which is a better measure for ascertaining trends, was $61 million for 2018 relative to an average balance of $53
million in 2017. The increase in the average balance in 2018 is due to the impact of vault cash required for acquired
and de novo branches, as well as a larger average volume of cash items in process of collection incidental to an
expanding base of deposit customers.
Premises and Equipment
Premises and equipment are stated on our books at cost, less accumulated depreciation and amortization. The cost of
furniture and equipment is expensed as depreciation over the estimated useful life of the related assets, and leasehold
improvements are amortized over the term of the related lease or the estimated useful life of the improvements,
whichever is shorter.
48
The following premises and equipment table reflects the original cost, accumulated depreciation and amortization,
and net book value of fixed assets by major category, for the years noted:
Premises and Equipment
(dollars in thousands)
2018
Accumulated
Depreciation
and
Net Book
As of December 31,
2017
Accumulated
Depreciation
and
Net Book
2016
Accumulated
Depreciation
and
Net Book
Cost
Amortization Value
Cost
Amortization Value
Cost
Amortization Value
Land ............. $ 5,751 $
Buildings ...... 21,579
Furniture and
equipment..... 18,958
Leasehold
improvements . 15,023
Construction
in progress....
901
Total........ $ 62,212 $
— $ 5,751 $ 5,261 $
10,140 11,439 20,255
— $ 5,261 $ 5,161 $
9,551 10,704 19,579
— $ 5,161
8,993 10,586
14,971
3,987 18,899
14,159
4,740 20,136
15,048
5,088
7,601
7,422 15,013
6,665
8,348 11,618
6,074
5,544
—
335
901
32,712 $ 29,500 $ 59,763 $
—
2,514
30,375 $ 29,388 $ 59,008 $
335
—
2,514
30,115 $ 28,893
Net premises and equipment increased by only $112,000 in 2018, since depreciation recorded on fixed assets largely
offset the impact of the Lompoc branch addition. The net book value of the Company’s premises and equipment was
1.2% of total assets at December 31, 2018, relative to 1.3% at December 31, 2017. Depreciation and amortization
included in occupancy and equipment expense totaled $3.0 million in 2018 and $2.9 million in 2017.
Other Assets
Goodwill totaled $27 million at December 31, 2018, unchanged for the year, but other intangible assets were up by
$221,000, or 4%, as a result of the core deposit intangible for the Lompoc deposits purchased in May 2018 less
amortization expense recorded on core deposit intangibles. The Company’s goodwill and other intangible assets are
evaluated annually for potential impairment following FASB guidelines, and based on those analytics Management
has determined that no impairment exists as of December 31, 2018.
The net cash surrender value of bank-owned life insurance policies increased to $48.2 million at December 31, 2018
from $47.1 million at December 31, 2017, due to the addition of BOLI income to net cash surrender values. Refer to
the “Noninterest Revenue and Operating Expense” section above for a more detailed discussion of BOLI and the
income it generates.
The line item for “other assets” on the Company’s balance sheet totaled $50.6 million at December 31, 2018, an
increase of $5.9 million, or 13%, relative to the $44.7 million balance at December 31, 2017. The increase is due
mainly to a receivable that was established for the proceeds of an OREO property that was sold in late December
2018. At year-end 2018, the balance of other assets included as its largest components an $11.7 million investment
in restricted stock, a net deferred tax asset of $8.7 million, accrued interest receivable totaling $8.6 million, a $7.6
million receivable for the referenced OREO sold in December, a $5.9 million investment in low-income housing tax
credit funds, and a $3.0 million investment in a small business investment corporation. Restricted stock is comprised
primarily of Federal Home Loan Bank of San Francisco stock held in conjunction with our FHLB borrowings, and is
not deemed to be marketable or liquid. Our net deferred tax asset is evaluated as of every reporting date pursuant to
FASB guidance, and we have determined that no impairment exists.
Deposits
Deposits represent another key balance sheet category impacting the Company’s net interest margin and profitability
metrics. Deposits provide liquidity to fund growth in earning assets, and the Company’s net interest margin is
improved to the extent that growth in deposits is concentrated in less volatile and typically less costly non-maturity
deposits such as demand deposit accounts, NOW accounts, savings accounts, and money market demand accounts.
49
Information concerning average balances and rates paid by deposit type for the past three fiscal years is contained in
the Distribution, Rate, and Yield table located in the previous section under “Results of Operations–Net Interest
Income and Net Interest Margin.” A distribution of the Company’s deposits showing the period-end balance and
percentage of total deposits by type is presented as of the dates noted in the following table:
Deposit Distribution
(dollars in thousands)
2018
Interest bearing demand deposits .................... $ 101,243
662,527
Non-interest bearing demand deposits ............
434,483
NOW................................................................
283,953
Savings ............................................................
123,807
Money market..................................................
—
CDAR's < $100,000 ........................................
CDAR's ≥ $100,000.........................................
—
93,156
Customer time deposit < $100,000..................
Customer time deposits ≥ $100,000 ................
367,171
50,000
Brokered deposits ............................................
Total deposits ............................................. $2,116,340
2017
$ 118,533
635,434
405,057
283,126
171,611
—
—
82,885
291,740
—
$1,988,386
Year Ended December 31,
2016
$ 132,586
524,552
366,238
215,693
119,417
251
—
75,633
261,101
—
$1,695,471
2015
$ 125,210
432,251
306,630
193,052
101,562
306
13,803
75,069
216,745
—
$1,464,628
2014
$ 110,840
390,897
275,494
167,655
117,907
572
10,727
79,292
208,311
5,000
$1,366,695
Percentage of Total Deposits
Interest bearing demand deposits ....................
Non-interest bearing demand deposits ............
NOW................................................................
Savings ............................................................
Money market..................................................
CDAR's < $100,000 ........................................
CDAR's ≥ $100,000.........................................
Customer Time deposit < $100,000 ................
Customer Time deposits > $100,000...............
Brokered deposits ............................................
Total ...........................................................
4.78%
31.31%
20.53%
13.42%
5.85%
—
—
4.40%
17.35%
2.36%
100.00%
5.96%
31.96%
20.37%
14.24%
8.63%
—
—
4.17%
14.67%
—
100.00%
7.82%
30.94%
21.60%
12.72%
7.04%
0.01%
—
4.46%
15.40%
—
100.00%
8.55%
29.51%
20.94%
13.18%
6.93%
0.02%
0.94%
5.13%
14.80%
—
100.00%
8.11%
28.60%
20.16%
12.27%
8.63%
0.04%
0.78%
5.80%
15.24%
0.37%
100.00%
Deposit balances reflect net growth of $128 million, or 6%, during 2018, due to acquired Lompoc branch deposits
totaling $34 million at December 31, 2018, the addition of $50 million in wholesale brokered deposits, and growth in
customer time deposits. Customer time deposits increased by $86 million, or 23%, due primarily to a marketing
campaign targeting those deposits in the fourth quarter of 2018, but the increase also includes about $7 million in time
deposits in the acquired Lompoc branch at the end of the year.
Relatively strong organic growth in non-maturity deposits during the first half of 2018 was offset by runoff in the
second half, resulting in a net decline of $8 million for the year. Non-interest bearing demand deposit balances were
up $27 million, or 4%, and NOW accounts increased by $29 million, or 7%, but part of the growth in those deposit
types came from migration out of interest-bearing demand deposit balances, which declined $17 million, or 15%, and
money market demand deposits, which were down $48 million, or 28%. The reduction in non-maturity deposits also
includes cannibalization resulting from the aforementioned time deposit promotion, although it is Management’s
belief that some of those deposits would have left the Bank without the promotion.
Management is of the opinion that a relatively high level of core customer deposits is one of the Company’s key
strengths, and we continue to strive for core deposit retention and growth. Our deposit-targeted promotions are still
favorably impacting growth in the number of accounts and it is expected that balances in these accounts will grow
over time consistent with our past experience, although given the current highly competitive market for deposits no
assurance can be provided with regard to future core deposit increases.
50
The scheduled maturity distribution of the Company’s time deposits at the end of 2018 was as follows:
Deposit Maturity Distribution
(dollars in thousands)
Three
months or
less
Three to
six months
As of December 31, 2018
One to
Six to
three
twelve
years
months
Over
three
years
Total
92,276
15,121
29,384
5,099
1,276
143,156
260,506
352,782 $
18,172
33,293 $
83,608
112,992 $
3,868
8,967 $
1,017
2,293 $
367,171
510,327
Time certificates of deposit
< $100,000 ..........................
Other time deposits ≥
$100,000..............................
Total............................... $
Other Borrowings
The Company’s non-deposit borrowings may, at any given time, include fed funds purchased from correspondent
banks, borrowings from the Federal Home Loan Bank, advances from the Federal Reserve Bank, securities sold under
agreements to repurchase, and/or junior subordinated debentures. The Company uses short-term FHLB advances and
fed funds purchased on uncommitted lines to support liquidity needs created by seasonal deposit flows, to temporarily
satisfy funding needs from increased loan demand, and for other short-term purposes. The FHLB line is committed,
but the amount of available credit depends on the level of pledged collateral.
Total non-deposit interest-bearing liabilities were up by $43 million, or 66%, in 2018, due to increases in FHLB
borrowings and customer repurchase agreements. The Company had $56 million in overnight borrowings from the
FHLB at December 31, 2018 relative to $22 million at December 31, 2017, for an increase of $34 million. There were
no overnight federal funds purchased from other correspondent banks or advances from the FRB on our books at
December 31, 2018 or 2017. Repurchase agreements totaled over $16 million at year-end 2018 relative to a balance
of $8 million at year-end 2017, for an increase of over $8 million. Repurchase agreements represent “sweep accounts”,
where commercial deposit balances above a specified threshold are transferred at the close of each business day into
non-deposit accounts secured by investment securities. The Company had junior subordinated debentures totaling
$34.8 million at December 31, 2018 and $34.6 million December 31, 2017, in the form of long-term borrowings from
trust subsidiaries formed specifically to issue trust preferred securities. The small increase resulted from the
amortization of discount on junior subordinated debentures that were part of our acquisition of Coast Bancorp in 2016.
51
The details of the Company’s short-term borrowings are presented in the table below, for the years noted:
Short-term Borrowings
(dollars in thousands)
Repurchase Agreements
Balance at December 31 ............................................. $
Average amount outstanding ......................................
Maximum amount outstanding at any month end.......
Average interest rate for the year................................
Fed funds purchased
Balance at December 31 ............................................. $
Average amount outstanding ......................................
Maximum amount outstanding at any month end.......
Average interest rate for the year................................
FHLB advances
Balance at December 31 ............................................. $
Average amount outstanding ......................................
Maximum amount outstanding at any month end.......
Average interest rate for the year................................
Other Noninterest Bearing Liabilities
2018
Year Ended December 31,
2017
2016
$
16,359
14,332
17,672
$
8,150
8,514
11,409
0.40%
0.40%
$
—
22
850
0.00%
$
—
166
5,500
0.60%
$
56,100
8,967
56,100
$
21,900
7,074
55,000
2.19%
0.82%
8,094
8,371
11,877
0.39%
—
822
8,200
0.73%
65,000
28,333
93,700
0.45%
Other liabilities are principally comprised of accrued interest payable, other accrued but unpaid expenses, and certain
clearing amounts. The Company’s balance of other liabilities went down by $5 million, or 17%, during 2018 due to
a drop in current taxes payable, a reduction in our liability for future capital commitments associated with low income
housing tax credit funds, and lower balances in clearing accounts.
Capital Resources
The Company had total shareholders’ equity of $273 million at December 31, 2018, compared to shareholders’ equity
of $256 million at the end of 2017. The increase of $17 million, or 7%, is due to $29.7 million in net income and
approximately $1.5 million in additional capital related to stock options, net of $9.8 million in dividends paid, and a
$4.3 million increase in our accumulated other comprehensive loss. We maintained a very strong capital position
throughout the recession and in the ensuing years, and our capital remains at relatively high levels in comparison to
many of our peer banks.
The Company uses a variety of measures to evaluate its capital adequacy, including risk-based capital and leverage
ratios that are calculated separately for the Company and the Bank. Management reviews these capital measurements
on a quarterly basis and takes appropriate action to help ensure that they meet or surpass established internal and exter-
nal guidelines. As permitted by the regulators for financial institutions that are not deemed to be “advanced
approaches” institutions, the Company has elected to opt out of the Basel III requirement to include accumulated other
comprehensive income in risk-based capital.
52
The following table sets forth the Company’s and the Bank’s regulatory capital ratios at the dates indicated:
December 31,
2018
December 31,
2017
Sierra Bancorp
Common Equity Tier 1 Capital to Risk-Weighted
Assets .........................................................................
Tier 1 Capital to Risk-weighted Assets......................
Total Capital to Risk-weighted Assets.......................
Tier 1 Capital to Adjusted Average Assets
("Leverage Ratio") .....................................................
Bank of the Sierra
Common Equity Tier 1 Capital to Risk-Weighted
Assets .........................................................................
Tier 1 Capital to Risk-weighted Assets......................
Total Capital to Risk-weighted Assets.......................
Tier 1 Capital to Adjusted Average Assets
("Leverage Ratio") .....................................................
12.61%
14.38%
14.89%
12.84%
14.79%
15.32%
11.49%
11.32%
14.25%
14.25%
14.77%
14.51%
14.51%
15.04%
11.39%
11.14%
At the end of 2018 the Company and the Bank were both classified as “well capitalized,” the highest rating of the
categories defined under the Bank Holding Company Act and the Federal Deposit Insurance Corporation Improve-
ment Act of 1991, and our regulatory capital ratios remained above the median for peer financial institutions. We do
not foresee any circumstances that would cause the Company or the Bank to be less than well capitalized, although
no assurance can be given that this will not occur. A more detailed table of regulatory capital ratios, which includes
the capital amounts and ratios required to qualify as “well capitalized” as well as minimum capital ratios, appears in
Note 14 to the Consolidated Financial Statements in Item 8 herein. For additional details on risk-based and leverage
capital guidelines, requirements, and calculations and for a summary of changes to risk-based capital calculations
which were recently approved by federal banking regulators, see “Item 1, Business – Supervision and Regulation –
Capital Adequacy Requirements” and “Item 1, Business – Supervision and Regulation – Prompt Corrective Action
Provisions” herein.
Liquidity and Market Risk Management
Liquidity
Liquidity management refers to the Company’s ability to maintain cash flows that are adequate to fund operations and
meet other obligations and commitments in a timely and cost-effective manner. Detailed cash flow projections are
reviewed by Management on a monthly basis, with various stress scenarios applied to assess our ability to meet
liquidity needs under unusual or adverse conditions. Liquidity ratios are also calculated and reviewed on a regular
basis. While those ratios are merely indicators and are not measures of actual liquidity, they are closely monitored
and we are committed to maintaining adequate liquidity resources to draw upon should unexpected needs arise.
The Company, on occasion, experiences cash needs as the result of loan growth, deposit outflows, asset purchases or
liability repayments. To meet short-term needs, we can borrow overnight funds from other financial institutions, draw
advances via Federal Home Loan Bank lines of credit, or solicit brokered deposits if customer deposits are not
immediately obtainable from local sources. Availability on lines of credit from correspondent banks and the FHLB
totaled $524 million at December 31, 2018. An additional $20 million in credit is available from the FHLB if the
Company were to pledge sufficient collateral and maintain the required amount of FHLB stock. The Company was
also eligible to borrow approximately $64 million at the Federal Reserve Discount Window based on pledged assets
at December 31, 2018. Furthermore, funds can be obtained by drawing down excess cash that might be available in
the Company’s correspondent bank deposit accounts, or by liquidating unpledged investments or other readily saleable
assets. In addition, the Company can raise immediate cash for temporary needs by selling under agreement to
repurchase those investments in its portfolio which are not pledged as collateral. As of December 31, 2018, unpledged
debt securities plus pledged securities in excess of current pledging requirements comprised $352 million of the
Company’s investment balances, as compared to $415 million at December 31, 2017. Other sources of potential
liquidity include but are not necessarily limited to any outstanding fed funds sold and vault cash. The Company has
53
a higher level of actual balance sheet liquidity than might otherwise be the case, since we utilize a letter of credit from
the FHLB rather than investment securities for certain pledging requirements. That letter of credit, which is backed
by loans pledged to the FHLB by the Company, totaled $95 million at December 31, 2018. Management is of the
opinion that available investments and other potentially liquid assets, along with standby funding sources it has
arranged, are more than sufficient to meet the Company’s current and anticipated short-term liquidity needs.
The Company’s net loans to assets and available investments to assets ratios were 69% and 14%, respectively, at
December 31, 2018, as compared to internal policy guidelines of “less than 78%” and “greater than 3%.” Other
liquidity ratios reviewed periodically by Management and the Board include net loans to total deposits and wholesale
funding to total assets (including ratios and sub-limits for the various components comprising wholesale funding),
which were all well within policy guidelines at December 31, 2018. The Company has been able to maintain a robust
liquidity position despite recent loan growth and non-maturity deposit runoff, but no assurance can be provided that
our liquidity position will continue at current strong levels.
The holding company’s primary uses of funds include operating expenses incurred in the normal course of business,
shareholder dividends, and stock repurchases. Its primary source of funds is dividends from the Bank, since the
holding company does not conduct regular banking operations. Management anticipates that the Bank will have
sufficient earnings to provide dividends to the holding company to meet its funding requirements for the foreseeable
future. Both the holding company and the Bank are subject to legal and regulatory limitations on dividend payments,
as outlined in Item 5(c) Dividends in this Form 10-K.
Interest Rate Risk Management
Market risk arises from changes in interest rates, exchange rates, commodity prices and equity prices. The Company
does not engage in the trading of financial instruments, nor does it have exposure to currency exchange rates. Our
market risk exposure is primarily that of interest rate risk, and we have established policies and procedures to monitor
and limit our earnings and balance sheet exposure to changes in interest rates. The principal objective of interest rate
risk management is to manage the financial components of the Company’s balance sheet in a manner that will optimize
the risk/reward equation for earnings and capital under a variety of interest rate scenarios.
To identify areas of potential exposure to interest rate changes, we utilize commercially available modeling software
to perform monthly earnings simulations and calculate the Company’s market value of portfolio equity under varying
interest rate scenarios. The model imports relevant information for the Company’s financial instruments and
incorporates Management’s assumptions on pricing, duration, and optionality for anticipated new volumes. Various
rate scenarios consisting of key rate and yield curve projections are then applied in order to calculate the expected
effect of a given interest rate change on interest income, interest expense, and the value of the Company’s financial
instruments. The rate projections can be shocked (an immediate and parallel change in all base rates, up or down),
ramped (an incremental increase or decrease in rates over a specified time period), economic (based on current trends
and econometric models) or stable (unchanged from current actual levels).
In addition to a stable rate scenario, which presumes that there are no changes in interest rates, we typically use at
least six other interest rate scenarios in conducting our rolling 12-month net interest income simulations: upward
shocks of 100, 200, and 300 basis points, and downward shocks of 100, 200, and 300 basis points. Those scenarios
may be supplemented, reduced in number, or otherwise adjusted as determined by Management to provide the most
meaningful simulations in light of economic conditions and expectations at the time. We currently utilize an addi-
tional upward rate shock scenario of 400 basis points. Pursuant to policy guidelines, we generally attempt to limit the
projected decline in net interest income relative to the stable rate scenario to no more than 5% for a 100 basis point
(bp) interest rate shock, 10% for a 200 bp shock, 15% for a 300 bp shock, and 20% for a 400 bp shock. As of December
31, 2018 the Company had the following estimated net interest income sensitivity profile, without factoring in any
potential negative impact on spreads resulting from competitive pressures or credit quality deterioration:
Change in Net Int. Inc. (in $000’s)................
% Change................................................
-300 bp
-$14,214
-14.73%
-200 bp
-$7,112
-7.37%
-100 bp
-$3,166
-3.28%
+100 bp
+$187
+0.19%
+200 bp
+$440
+0.46%
+300 bp
+$325
+0.34%
+400 bp
+$44
+0.05%
Immediate Change in Rate
54
Our current simulations indicate that the Company’s net interest income will remain relatively flat over the next 12
months in a rising rate environment, but a drop in interest rates could have a substantial negative impact. In prior
periods the simulations projected sizeable gains in net interest income in rising rate scenarios, but balance sheet
changes such as the addition of fixed-rate loans and adjustable-rate loans with longer reset periods, and the recent
increase in interest rates have significantly diminished that effect. If there were an immediate and sustained upward
adjustment of 100 basis points in interest rates, all else being equal, net interest income over the next 12 months is
projected to improve by only $187,000, or 0.19%, relative to a stable interest rate scenario, with the favorable variance
contracting very slightly as interest rates rise higher. If interest rates were to decline by 100 basis points, however,
net interest income would likely be around $3.166 million lower than in a stable interest rate scenario, for a negative
variance of 3.28%. The unfavorable variance increases when rates drop 200 or 300 basis points, due to the fact that
certain deposit rates are already relatively low (on NOW accounts and savings accounts, for example), and will hit a
natural floor of close to zero while non-floored variable-rate loan yields continue to drop. This effect is exacerbated
by accelerated prepayments on fixed-rate loans and mortgage-backed securities when rates decline, although rate
floors on some of our variable-rate loans partially offset other negative pressures. While we view material interest
rate reductions as unlikely in the near term, we will continue to monitor our interest rate risk profile and will apply
remedial changes as deemed appropriate.
In addition to the net interest income simulations shown above, we run stress scenarios for the unconsolidated Bank
modeling the possibility of no balance sheet growth, the potential runoff of “surge” core deposits which flowed into
the Bank in the most recent economic cycle, and unfavorable movement in deposit rates relative to yields on earning
assets (i.e., higher deposit betas). When no balance sheet growth is incorporated and a stable interest rate environ-
ment is assumed, projected annual net interest income is about $2 million lower than in our standard simulation.
However, the stressed simulations reveal that the Company’s greatest potential pressure on net interest income would
result from excessive non-maturity deposit runoff and/or unfavorable deposit rate changes in rising rate scenarios.
The economic value (or “fair value”) of financial instruments on the Company’s balance sheet will also vary under
the interest rate scenarios previously discussed. The difference between the projected fair value of the Company’s
financial assets and the fair value of its financial liabilities is referred to as the economic value of equity (“EVE”), and
changes in EVE under different interest rate scenarios are effectively a gauge of the Company’s longer-term exposure
to interest rate fluctuations. Fair values for financial instruments are estimated by discounting projected cash flows
(principal and interest) at anticipated replacement interest rates for each account type, while the fair value of non-
financial accounts is assumed to equal their book value for all rate scenarios. An economic value simulation is a static
measure utilizing balance sheet accounts at a given point in time, and the measurement can change substantially over
time as the Company’s balance sheet evolves and interest rate and yield curve assumptions are updated.
The change in economic value under different interest rate scenarios depends on the characteristics of each class of
financial instrument, including stated interest rates or spreads relative to current or projected market-level interest
rates or spreads, the likelihood of principal prepayments, whether contractual interest rates are fixed or floating, and
the average remaining time to maturity. As a general rule, fixed-rate financial assets become more valuable in
declining rate scenarios and less valuable in rising rate scenarios, while fixed-rate financial liabilities gain in value as
interest rates rise and lose value as interest rates decline. The longer the duration of the financial instrument, the
greater the impact a rate change will have on its value. In our economic value simulations, estimated prepayments are
factored in for financial instruments with stated maturity dates, and decay rates for non-maturity deposits are projected
based on historical patterns and Management’s best estimates. Our EVE has increased in recent periods due to asset
growth and higher discount rates, which result in a larger benefit assessed to non-maturity deposits. The table below
shows estimated changes in the Company’s EVE as of December 31, 2018, under different interest rate scenarios
relative to a base case of current interest rates:
Change in EVE (in $000’s) ...........................
% Change................................................
-300 bp
-$150,691
-25.85%
-200 bp
-$146,922
-25.21%
-100 bp
-$61,849
-10.61%
+100 bp
+$26,094
+4.48%
+200 bp
+$41,670
+7.15%
+300 bp
+$49,586
+8.51%
+400 bp
+$54,000
+9.26%
Immediate Change in Rate
The table shows that our EVE will generally deteriorate in declining rate scenarios, but should benefit from a parallel
shift upward in the yield curve. The change in EVE flattens out as interest rates drop more than 200 basis points,
while the rate of increase in EVE begins to taper off the higher interest rates rise. This phenomenon is caused by the
relative durations of our fixed-rate assets and liabilities, combined with optionality inherent in our balance sheet. We
55
also run stress scenarios for the unconsolidated Bank’s EVE to simulate the possibility of higher loan prepayment
rates, unfavorable changes in deposit rates, and higher deposit decay rates. Model results are highly sensitive to
changes in assumed decay rates for non-maturity deposits, in particular, with material unfavorable variances occurring
relative to the standard simulations shown above as decay rates are increased. Furthermore, while not as extreme as
the variances produced by increasing non-maturity deposit decay rates, EVE also displays a relatively high level of
sensitivity to unfavorable changes in deposit rate betas in rising interest rate scenarios.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The information concerning quantitative and qualitative disclosures of market risk called for by Item 305 of Regula-
tion S-K is included as part of Item 7 above. See “Management’s Discussion and Analysis of Financial Condition and
Results of Operations – Liquidity and Market Risk Management”.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The following financial statements and independent auditors’ reports listed below are included herein:
I.
Report of Independent Registered Public Accounting Firm from Vavrinek, Trine, Day
& Co., LLP ...................................................................................................................
II.
Consolidated Balance Sheets – December 31, 2018 and 2017 .........................................
Page
57
59
III. Consolidated Statements of Income – Years Ended December 31, 2018, 2017, and
2016..............................................................................................................................
60
IV. Consolidated Statements of Comprehensive Income – Years Ended December 31,
2018, 2017, and 2016 ...................................................................................................
61
V. Consolidated Statements of Changes in Shareholders’ Equity – Years Ended
December 31, 2018, 2017, and 2016............................................................................
62
VI. Consolidated Statements of Cash Flows – Years Ended December 31, 2018, 2017, and
2016..............................................................................................................................
VII. Notes to Consolidated Financial Statements.....................................................................
63
66
56
Report of Independent Registered Public Accounting Firm
Board of Directors and Shareholders
Sierra Bancorp and Subsidiary
Porterville, California
Opinions on the Consolidated Financial Statements and Internal Control over Financial Reporting
We have audited the accompanying consolidated balance sheets of Sierra Bancorp and Subsidiary (the “Company”)
as of December 31, 2018 and 2017, and the related consolidated statements of income and comprehensive income, of
changes in shareholders’ equity, and of cash flows for each of the years in the three year period ended December 31,
2018, and the related notes (collectively referred to as the “financial statements”). We also have audited the
Company’s internal control over financial reporting as of December 31, 2018, based on criteria established in Internal
Control - Integrated Framework: (2013) issued by the Committee of Sponsoring Organizations of the Treadway
Commission (COSO).
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position
of the Company as of December 31, 2018 and 2017, and the results of its operations and its cash flows for each of the
years in the three year period ended December 31, 2018 in conformity with accounting principles generally accepted
in the United States of America. Also in our opinion, the Company maintained, in all material respects, effective
internal control over financial reporting as of December 31, 2018, based on criteria established in Internal Control -
Integrated Framework: (2013) issued by the COSO.
Basis for Opinions
The Company’s management is responsible for these financial statements, for maintaining effective internal control
over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting,
included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility
is to express an opinion on the Company’s financial statements and on the Company’s internal control over financial
reporting based on our integrated audits. We are a public accounting firm registered with the Public Company
Accounting Oversight Board (United States) (“PCAOB”) and are required to be independent with respect to the
Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities
and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and
perform the audits to obtain reasonable assurance about whether the financial statements are free of material
misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was
maintained in all material respects.
Our audits of the financial statements included performing procedures to assess the risks of material misstatement of
the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such
procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial
statements. Our audits also included evaluating the accounting principles used and significant estimates made by
management, as well as evaluating the overall presentation of the financial statements. Our audit of internal control
over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the
risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal
control based on the assessed risk. Our audits also included performing such other procedures as we considered
necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding
the reliability of financial reporting and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company’s internal control over financial reporting includes those
policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that
transactions are recorded as necessary to permit preparation of financial statements in accordance with generally
57
accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance
with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding
prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have
a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements.
Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may
deteriorate.
/s/ Vavrinek, Trine, Day & Co., LLP
We have served as the Company’s auditor since 2004.
Rancho Cucamonga, California
March 14, 2019
58
SIERRA BANCORP AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
December 31, 2018 and 2017
(dollars in thousands)
ASSETS
Cash and due from banks .................................................................................... $
Interest-bearing deposits in banks.......................................................................
Cash and cash equivalents........................................................................
Securities available-for-sale ................................................................................
Loans and leases:
Gross loans and leases ...................................................................................
Allowance for loan and lease losses ..............................................................
Deferred loan and lease costs, net .................................................................
Net loans and leases .................................................................................
Foreclosed assets.................................................................................................
Premises and equipment, net...............................................................................
Goodwill..............................................................................................................
Other intangible assets, net .................................................................................
Company owned life insurance...........................................................................
Other assets .........................................................................................................
$
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits:
Non-interest bearing................................................................................. $
Interest bearing.........................................................................................
Total deposits......................................................................................
Repurchase agreements.......................................................................................
Short-term borrowings ........................................................................................
Subordinated debentures, net ..............................................................................
Other liabilities....................................................................................................
Total liabilities ....................................................................................
Commitments and contingent liabilities (Notes 5 & 12)
Shareholders' equity
Serial Preferred stock, no par value; 10,000,000 shares authorized; none
issued; Common stock, no par value; 24,000,000 shares authorized;
15,300,460 and 15,223,360 shares issued and outstanding in 2018 and
2017, respectively..........................................................................................
Additional paid-in capital ..............................................................................
Retained earnings ..........................................................................................
Accumulated other comprehensive loss, net of taxes of $(2,798) in 2018
and $(977) in 2017.........................................................................................
Total shareholders' equity ...................................................................
$
2018
2017
72,439 $
1,693
74,132
560,479
1,731,928
(9,750)
2,602
1,724,780
1,082
29,500
27,357
6,455
48,153
50,564
2,522,502 $
662,527 $
1,453,813
2,116,340
16,359
56,100
34,767
25,912
2,249,478
61,142
8,995
70,137
558,329
1,557,820
(9,043)
2,774
1,551,551
5,481
29,388
27,357
6,234
47,108
44,713
2,340,298
635,434
1,352,952
1,988,386
8,150
21,900
34,588
31,332
2,084,356
112,507
3,066
164,117
111,138
2,937
144,197
(6,666)
273,024
2,522,502 $
(2,330)
255,942
2,340,298
The accompanying notes are an integral part of these consolidated financial statements.
59
SIERRA BANCORP AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
Years Ended December 31, 2018, 2017 and 2016
(dollars in thousands, except per share data)
2018
2017
2016
Interest and dividend income
Loans and leases, including fees....................................................... $
Taxable securities .............................................................................
Tax-exempt securities .......................................................................
Dividend income on securities..........................................................
Federal funds sold and other.............................................................
Total interest income...................................................................
87,792 $
9,548
4,060
—
238
101,638
Interest expense
Deposits ............................................................................................
Short-term borrowings......................................................................
Subordinated debentures...................................................................
Total interest expense..................................................................
Net interest income .....................................................................
Provision (benefit) for loan and lease losses ..........................................
Net interest income after provision for loan and lease losses .....
Non-interest income
Service charges on deposits ..............................................................
Gain on sale of loans.........................................................................
Checkcard fees..................................................................................
Net gains on sale of securities available-for-sale..............................
Increase in cash surrender value of life insurance ............................
Other income.....................................................................................
Total non-interest income ...........................................................
Non-interest expense
Salaries and employee benefits.........................................................
Occupancy and equipment................................................................
Acquisition costs...............................................................................
Other .................................................................................................
Total non-interest expense ..........................................................
Income before income taxes .......................................................
Provision for income taxes .....................................................................
Net income .................................................................................. $
Earnings per share
7,260
253
1,731
9,244
92,394
4,350
88,044
12,439
—
5,878
2
591
2,654
21,564
36,133
10,295
449
23,147
70,024
39,584
9,907
29,677 $
68,227 $
8,614
3,711
16
356
80,924
3,762
93
1,368
5,223
75,701
(1,140)
76,841
11,230
3
4,955
500
1,640
3,451
21,779
31,506
9,590
2,225
22,120
65,441
33,179
13,640
19,539 $
57,450
7,922
3,009
40
84
68,505
2,174
166
983
3,323
65,182
—
65,182
10,151
2
4,467
223
994
3,401
19,238
27,452
7,766
2,411
20,424
58,053
26,367
8,800
17,567
Basic ................................................................................................. $
Diluted .............................................................................................. $
Weighted average shares outstanding, basic ..........................................
Weighted average shares outstanding, diluted .......................................
1.94 $
1.92 $
15,261,794
15,432,120
1.38 $
1.36 $
14,172,196
14,357,782
1.30
1.29
13,530,293
13,651,804
The accompanying notes are an integral part of these consolidated financial statements.
60
SIERRA BANCORP AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Years Ended December 31, 2018, 2017 and 2016
(dollars in thousands, except footnotes)
Net income ........................................................................................ $
Other comprehensive loss, before tax:
Unrealized (loss) gain on securities:
Unrealized holding (loss) gain arising during period.............
Reclassification adjustment for gain included in net income
(1).............................................................................................
Other comprehensive loss, before tax ...............................................
Income tax benefit related to items of other comprehensive
income .........................................................................................
Total other comprehensive loss, net of tax ..................................
Comprehensive income ...............................................................
2018
2017
2016
29,677 $
19,539 $
17,567
(6,154)
231
(7,245)
(2)
(6,156)
1,820
(4,336)
25,341
(500)
(269)
112
(157)
19,382
(223)
(7,468)
3,162
(4,306)
13,261
(1) Amounts are included in net gains on securities available-for-sale on the Consolidated Statements of Income
in non-interest income. Income tax expense associated with the reclassification adjustment for the years
ended 2018, 2017 and 2016 was $0, $210,000 and $94,000 respectively.
The accompanying notes are an integral part of these consolidated financial statements.
61
SIERRA BANCORP AND SUBSIDIARY
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS’ EQUITY
For the Three Years Ended December 31, 2018
(dollars in thousands, except per share data)
Common Stock
Shares
13,254,088 $
Amount
Additional
Accumulated
Other
Paid In
Capital
Retained
Earnings
Comprehensive Shareholders'
Income (loss)
Equity
62,404 $
2,689 $
122,701 $
17,567
2,546 $
190,340
17,567
(4,306 )
(4,306 )
48,640
694
(125,365 )
599,226
(677 )
10,205
(45 )
188
13,776,589
72,626
2,832
70,340
1,141
(377 )
476
1,376,431
37,371
6
15,223,360
111,138
2,937
77,100
1,369
(238 )
373
(6 )
(1,582 )
(6,506 )
132,180
19,539
413
(7,935 )
144,197
29,677
(1,760 )
(157 )
(413 )
(2,330 )
(4,336 )
15,300,460 $
112,507 $
3,066 $
(9,757 )
164,117 $
(6,666 ) $
649
188
(2,259 )
10,205
(6,506 )
205,878
19,539
(157 )
—
764
476
—
37,377
(7,935 )
255,942
29,677
(4,336 )
1,131
373
—
(6 )
(9,757 )
273,024
Balance, January 1, 2016............
Net Income .................................
Other comprehensive loss, net
of tax...........................................
Exercise of stock options and
related tax benefits of $146 ........
Stock compensation costs...........
Stock repurchase.........................
Stock issued-acquisition .............
Cash dividends - $.48 per share..
Balance, December 31, 2016......
Net Income .................................
Other comprehensive loss, net
of tax...........................................
Tax act reclassification ...............
Exercise of stock options............
Stock compensation costs...........
Stock repurchase.........................
Stock issued-acquisition .............
Cash dividends - $.56 per share..
Balance, December 31, 2017......
Net Income .................................
Other comprehensive loss, net
of tax...........................................
Exercise of stock options............
Stock compensation costs...........
Stock repurchase.........................
Stock issued-acquisition .............
Cash dividends - $.64 per share..
Balance, December 31, 2018......
The accompanying notes are an integral part of these consolidated financial statements.
62
SIERRA BANCORP AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31, 2018, 2017, and 2016
(dollars in thousands)
Cash flows from operating activities:
Net income....................................................................................... $
Adjustments to reconcile net income to net cash provided by
operating activities:
Gain on sales of securities ...............................................................
Gain on sale of loans........................................................................
Loss on disposal of fixed assets.......................................................
Gain on sale of foreclosed assets .....................................................
Writedown of foreclosed assets .......................................................
Share-based compensation expense.................................................
Provision (benefit) for loan losses ...................................................
Depreciation and amortization.........................................................
Net amortization on securities premiums and discounts .................
Accretion of discounts for loans acquired and net deferred loan
fees ...................................................................................................
Increase in cash surrender value of life insurance policies..............
Amortization of core deposit intangible ..........................................
Decrease (increase) in interest receivable and other assets .............
(Decrease) increase in other liabilities.............................................
Deferred income tax benefit ............................................................
Deferred tax benefit from equity based compensation ....................
Increase in equity securities.............................................................
Net amortization of partnership investment.....................................
Net cash provided by operating activities..................................
Cash flows from investing activities:
.
Maturities of securities available for sale ........................................
Proceeds from sales/calls of securities available for sale ................
Purchases of securities available for sale.........................................
Principal paydowns on securities available for sale ........................
Net purchases of FHLB stock..........................................................
Loan originations and payments, net ...............................................
Purchases of premises and equipment, net ......................................
Proceeds from sales of foreclosed assets .........................................
Purchase of bank owned life insurance............................................
Proceeds from BOLI death benefit ..................................................
Net increase in partnership investment............................................
Net cash from bank acquisition .......................................................
Net cash used in investing activities ..........................................
Cash flows from financing activities:
Increase in deposits..........................................................................
Increase (decrease) in borrowed funds ............................................
Increase (decrease) in repurchase agreements .................................
Cash dividends paid .........................................................................
Repurchases of common stock ........................................................
Stock options exercised ...................................................................
Excess tax provision from equity based compensation ...................
Net cash provided by (used in) financing activities...................
(Decrease) increase in cash and due from banks .......................
Cash and cash equivalents, beginning of year .......................................
Cash and cash equivalents, end of year ................................................. $
2018
2017
2016
29,677 $
19,539 $
17,567
(2)
—
16
(1,423)
439
373
4,350
3,174
5,452
(1,647)
(591)
1,020
(6,106)
(5,420)
(308)
—
(1,183)
2,625
30,446
4,285
12,283
(122,818)
92,494
(300)
(183,737)
(3,123)
13,188
(454)
—
—
(6)
(188,188)
(500)
(3)
136
(56)
95
476
(1,140)
3,030
6,749
(1,384)
(1,640)
508
10,402
4,100
(1,130)
—
—
1,497
40,679
2,065
47,594
(179,092)
100,161
(1,689)
(76,129)
(2,141)
443
(455)
999
(5,000)
61,571
(51,673)
127,954
34,200
8,209
(9,757)
—
1,131
—
161,737
3,995
70,137
74,132 $
35,304
(67,500)
56
(7,935)
—
764
—
(39,311)
(50,305)
120,442
70,137 $
(223)
(2)
2
(130)
450
188
—
2,584
7,130
(1,030)
(945)
272
(3,442)
(621)
(6,113)
(106)
—
—
15,581
1,310
39,568
(138,675)
99,181
(960)
(36,761)
(3,586)
1,551
(360)
1,739
—
15,653
(21,340)
101,805
(14,800)
(1,311)
(6,506)
(2,259)
543
106
77,578
71,819
48,623
120,442
63
SIERRA BANCORP AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Continued)
Years Ended December 31, 2018, 2017 and 2016
(dollars in thousands)
Supplemental disclosure of cash flow information:
Cash paid during the year for:
Interest ........................................................................................... $
Income taxes .................................................................................. $
Non-cash investing activities
Real estate acquired through foreclosure....................................... $
Change in unrealized net losses on securities available-for-sale ......... $
Assets acquired (liabilities assumed) in bank acquisition:
Cash and cash equivalents ....................................................... $
Securities.................................................................................. $
Federal Home Loan Bank and Federal Reserve Bank stock ... $
Loans........................................................................................ $
Premises and equipment .......................................................... $
Foreclosed assets ..................................................................... $
Core deposit intangibles .......................................................... $
Goodwill .................................................................................. $
Other assets .............................................................................. $
Deposits ................................................................................... $
Other liabilities ........................................................................ $
Borrowings .............................................................................. $
Subordinated debentures.......................................................... $
2018
2017
2016
8,707 $
11,300 $
7,805 $
(6,156) $
— $
— $
— $
— $
— $
— $
— $
— $
— $
— $
— $
— $
— $
5,000 $
7,147 $
666 $
(269) $
62,374 $
5,492 $
— $
217,807 $
1,342 $
3,072 $
3,939 $
19,089 $
10,479 $
(257,611) $
(3,404) $
(24,400) $
— $
3,396
4,930
902
(7,468)
18,931
23,363
1,057
94,264
5,844
—
1,827
1,360
2,504
(129,038)
(705)
(2,500)
(3,422)
The accompanying notes are an integral part of these consolidated financial statements.
64
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1.
THE BUSINESS OF SIERRA BANCORP
Sierra Bancorp (the “Company”) is a California corporation registered as a bank holding company under the
Bank Holding Company Act of 1956, as amended, and is headquartered in Porterville, California. The Company
was incorporated in November 2000 and acquired all of the outstanding shares of Bank of the Sierra (the
“Bank”) in August 2001. The Company’s principal subsidiary is the Bank, and the Company exists primarily
for the purpose of holding the stock of the Bank and of such other subsidiaries it may acquire or establish. The
Company’s only other direct subsidiaries are Sierra Statutory Trust II, Sierra Capital Trust III and Coast Bancorp
Statutory Trust II, which were formed solely to facilitate the issuance of capital trust pass-through securities.
At December 31, 2018, the Bank operated 40 full service branch offices, an online branch, an agricultural
credit division, and an SBA lending unit. The Bank’s deposits are insured by the Federal Deposit Insurance
Corporation (FDIC) up to applicable legal limits. The Bank maintains a diversified loan portfolio comprised of
agricultural, commercial, consumer, real estate construction and mortgage loans. Loans are made in California
within the market area of the South Central San Joaquin Valley, the Central Coast, Ventura County and
neighboring communities. These areas have diverse economies with principal industries being agriculture, real
estate and light manufacturing.
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Consolidation and Basis of Presentation
The consolidated financial statements include the accounts of the Company and the consolidated accounts of its
wholly-owned subsidiary, Bank of the Sierra. All significant intercompany balances and transactions have been
eliminated. Certain reclassifications have been made to prior years' balances to conform to classifications used
in 2018. The accounting and reporting policies of the Company conform to accounting principles generally
accepted in the United States of America (U.S. GAAP) and prevailing practices within the banking industry.
In accordance with U.S. GAAP, the Company’s investments in Sierra Statutory Trust II, Sierra Capital Trust III
and Coast Bancorp Statutory Trust II are not consolidated and are accounted for under the equity method and
included in other assets on the consolidated balance sheet. The subordinated debentures issued and guaranteed
by the Company and held by the trusts are reflected on the Company’s consolidated balance sheet.
Use of Estimates
The preparation of consolidated financial statements in conformity with U.S. GAAP requires management to
make estimates and assumptions based on available information. These estimates and assumptions affect the
amounts reported in the financial statements and the disclosures provided, and actual results could differ.
Material estimates that are particularly susceptible to significant changes in the near-term relate to the
determination of the allowance for loan and lease losses and the valuation of real estate acquired in connection
with foreclosures or in satisfaction of loans. In connection with the determination of the allowances for loan
and lease losses and other real estate, management obtains independent appraisals for significant properties,
evaluates the overall loan portfolio characteristics and delinquencies and monitors economic conditions.
Cash Flows
For purposes of reporting cash flows, cash and cash equivalents include cash and deposits with other financial
institutions that mature within 90 days, and federal funds sold. Net cash flows are reported for customer loan
and deposit transactions, interest bearing deposits in other financial institutions, and fed funds purchased and
repurchase agreements.
66
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Securities
Debt securities may be classified as held to maturity and carried at amortized cost when management has the
positive ability and intent to hold them to maturity. Debt securities are classified as available for sale when they
might be sold before maturity. Equity securities with readily determinable fair values are classified as available
for sale. Debt securities available for sale are carried at fair value with unrealized holding gains and losses
reported in other comprehensive income, net of tax. Equity securities are carried at fair value with changes in
fair value included in net income.
Interest income includes amortization of purchase premium or discount. Premiums or discounts on securities
are amortized on the level-yield method without anticipating prepayments. Gains and losses on sales are
recorded on the trade date and determined using the specific identification method.
Management determines the appropriate classification of its investments at the time of purchase and may only
change the classification in certain limited circumstances. All transfers between categories are accounted for at
fair value. Although the Company currently has the intent and the ability to hold the securities in its investment
portfolio to maturity, the securities are all marketable and are currently classified as “available for sale” to allow
maximum flexibility with regard to interest rate risk and liquidity management.
Management evaluates securities for other-than-temporary impairment (“OTTI”) on at least a quarterly basis,
and more frequently when economic or market conditions warrant such an evaluation. For securities in an
unrealized loss position, management considers the extent and duration of the unrealized loss and the financial
condition and near-term prospects of the issuer. Management also assesses whether it intends to sell, or it is
more likely than not that it will be required to sell, a security in an unrealized loss position before recovery of
its amortized cost basis. If either of the criteria regarding intent or requirement to sell is met, the entire difference
between amortized cost and fair value is recognized as impairment through earnings. For debt securities that
do not meet the aforementioned criteria, the amount of the impairment is split into two components as follows:
1) OTTI related to credit loss, which must be recognized in the income statement and 2) OTTI related to other
factors, which is recognized in other comprehensive income. The credit loss is defined as the difference between
the present value of the cash flows expected to be collected and the amortized cost basis. For equity securities,
the entire amount of impairment is recognized through earnings.
FHLB Stock and Other Investments
The Bank is a member of the Federal Home Loan Bank ("FHLB") system. Members are required to own a
certain amount of stock based on the level of borrowings and other factors, and may invest in additional amounts.
FHLB stock is carried at cost in other assets, and periodically evaluated for impairment based on the ultimate
recovery of par value. Both cash and stock dividends are reported as income. The Bank's investment in FHLB
stock was approximately $9,894,000 and $9,594,000 at December 31, 2018 and 2017, respectively.
Pursuant to the adoption of ASU 2016-01 on January 1, 2018, the Company elected the measurement alternative
for measuring equity securities without readily determinable fair values at cost less impairment, plus or minus
observable price changes in orderly transactions. The carrying amount of equity securities without readily
determinable fair values is $1,784,000 as of December 31, 2018, and primarily consists of an investment in
Pacific Coast Bankers’ Bank (“PCBB”). A remeasurement gain of $1,183,000 was recorded to income during
the year ended December 31, 2018 on PCBB stock. Adjustments to the carrying value of PCBB stock during
the year 2018 were based on observable activity in the stock.
Loans Held for Sale
The Company may originate loans intended to be sold on the secondary market. Loans originated and intended
for sale in the secondary market are carried at cost which approximates fair value since these loans are typically
sold shortly after origination. The loan’s cost basis includes unearned deferred fees and costs, and premiums
and discounts. If loans held for sale remain on our books for an extended period of time the fair value of those
loans is determined using quoted secondary market prices. Net unrealized losses, if any, are recorded as a
valuation allowance and charged to earnings.
67
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Loans that might be held for sale by the Company typically consist of residential real estate loans. Loans
classified as held for sale, if any, are disclosed in Note 4 to the consolidated financial statements.
Gains and losses on sales of loans are recognized at the time of sale and are calculated based on the difference
between the selling price and the allocated book value of loans sold. Book value allocations are determined in
accordance with U.S. GAAP. Any inherent risk of loss on loans sold is transferred to the buyer at the date of
sale.
The Company has issued various representations and warranties associated with the sale of loans. These
representations and warranties may require the Company to repurchase loans with underwriting deficiencies as
defined per the applicable sales agreements and certain past due loans within 90 days of the sale. The Company
did not experience losses during the years ended December 31, 2018, 2017, or 2016 regarding these
representations and warranties.
Loans and Leases (Financing Receivables)
Our credit quality classifications of Loans and Leases include Pass, Special Mention, Substandard and Impaired.
These classifications are defined in Note 4 to the consolidated financial statements.
Loans and leases that management has the intent and ability to hold for the foreseeable future or until maturity
or payoff are reported at the principal balance outstanding, net of deferred loan fees and costs, purchase
premiums and discounts, write-downs, and an allowance for loan and lease losses. Loan and lease origination
fees, net of certain deferred origination costs, and purchase premiums and discounts are recognized in interest
income as an adjustment to yield of the related loans and leases over the contractual life of the loan using both
the effective interest and straight line methods without anticipating prepayments.
Interest income for all performing loans, regardless of classification (Pass, Special Mention, Substandard and
Impaired), is recognized on an accrual basis, with interest accrued daily. Costs associated with successful loan
originations are netted from loan origination fees, with the net amount (net deferred loan fees) amortized over
the contractual life of the loan in interest income. If a loan has scheduled periodic payments, the amortization
of the net deferred loan fee is calculated using the effective interest method over the contractual life of the loan.
If the loan does not have scheduled payments, such as a line of credit, the net deferred loan fee is recognized as
interest income on a straight line basis over the contractual life of the loan. Fees received for loan commitments
are recognized as interest income over the term of the commitment. When loans are repaid, any remaining
unamortized balances of deferred fees and costs are accounted for through interest income.
Generally, the Company places a loan or lease on nonaccrual status and ceases recognizing interest income
when it has become delinquent more than 90 days and/or when Management determines that the repayment of
principal and collection of interest is unlikely. The Company may decide that it is appropriate to continue to
accrue interest on certain loans more than 90 days delinquent if they are well-secured by collateral and collection
is in process. When a loan is placed on nonaccrual status, any accrued but uncollected interest for the loan is
reversed out of interest income in the period in which the loan’s status changed. For loans with an interest
reserve, i.e., where loan proceeds are advanced to the borrower to make interest payments, all interest recognized
from the inception of the loan is reversed when the loan is placed on non-accrual. Once a loan is on non-accrual
status subsequent payments received from the customer are applied to principal, and no further interest income
is recognized until the principal has been paid in full or until circumstances have changed such that payments
are again consistently received as contractually required. Generally, loans and leases are not restored to accrual
status until the obligation is brought current and has performed in accordance with the contractual terms for a
reasonable period of time, and the ultimate collectability of the total contractual principal and interest is no
longer in doubt.
Impaired loans are classified as either nonaccrual or accrual, depending on individual circumstances regarding
the collectability of interest and principal according to the contractual terms.
68
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Purchased Credit Impaired Loans
The Company purchases individual loans and groups of loans, some of which may show evidence of credit
deterioration since origination. These purchased credit impaired (“PCI”) loans are recorded at the amount paid,
since there is no carryover of the seller’s allowance for loan losses. After acquisition, losses are recognized by
an increase in the allowance for loan losses.
Such PCI loans are accounted for individually or aggregated into pools of loans based on common risk
characteristics. The Company estimates the amount and timing of expected cash flows for the loan or pool, and
the expected cash flows in excess of amount paid is recorded as interest income over the remaining life of the
loan or pool (accretable yield). The excess of the loan’s or pool’s contractual principal and interest over
expected cash flows is not recorded (nonaccretable difference).
Over the life of the loan or pool, expected cash flows continue to be estimated. If the present value of expected
cash flows is less than the carrying amount, a loss is recorded as a provision for loan and lease losses. If the
present value of expected cash flows is greater than the carrying amount, it is recognized as part of future interest
income
Loans Modified in a Troubled Debt Restructuring
Loans are considered to have been modified in a troubled debt restructuring (“TDR”) when due to a borrower’s
financial difficulties the Company makes certain concessions to the borrower that it would not otherwise
consider. Modifications may include interest rate reductions, principal or interest forgiveness, forbearance, and
other actions intended to minimize economic loss and to avoid foreclosure or repossession of collateral.
Generally, a non-accrual loan that has been modified in a TDR remains on non-accrual status for a period of six
months to demonstrate that the borrower is able to meet the terms of the modified loan. However, performance
prior to the modification, or significant events that coincide with the modification, are included in assessing
whether the borrower can meet the new terms and may result in the loan being returned to accrual status at the
time of loan modification or after a shorter performance period. If the borrower’s ability to meet the revised
payment schedule is uncertain, the loan remains on non-accrual status.
A TDR is generally considered to be in default when it appears likely that the customer will not be able to repay
all principal and interest pursuant to the terms of the restructured agreement.
Allowance for Loan and Lease Losses
The allowance for loan and lease losses is maintained at a level which, in management’s judgment, is adequate
to absorb loan and lease losses inherent in the loan and lease portfolio. The allowance for loan and lease losses
is increased by a provision for loan and lease losses, which is charged to expense, and by principal recovered
on charged-off balances. It is reduced by principal charge-offs. The amount of the allowance is based on
management’s evaluation of the collectability of the loan and lease portfolio, changes in its risk profile, credit
concentrations, historical trends, and economic conditions. This evaluation also considers the balance of
impaired loans and leases. A loan or lease is impaired when it is probable that the Company will be unable to
collect all contractual principal and interest payments due in accordance with the terms of the loan or lease
agreement. The impairment on certain individually identified loans or leases is measured based on the present
value of expected future cash flows discounted at the original effective interest rate of the loan or lease. As a
practical expedient, impairment may be measured based on the loan’s or lease’s observable market price or the
fair value of collateral if the loan or lease is collateral dependent. The amount of impairment, if any, is recorded
through the provision for loan and lease losses and is added to the allowance for loan and lease losses, with any
changes over time recognized as additional bad debt expense in our provision for loan losses. Impaired loans
with homogenous characteristics, such as one-to-four family residential mortgages and consumer installment
loans, may be subjected to a collective evaluation for impairment, considering delinquency and repossession
statistics, historical loss experience, and other factors.
General reserves cover non-impaired loans and are based on historical net loss rates for each portfolio segment
by call report code, adjusted for the effects of qualitative or environmental factors that are likely to cause
69
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
estimated credit losses as of the evaluation date to differ from the portfolio segment’s historical loss experience.
Qualitative factors include consideration of the following: changes in lending policies and procedures; changes
in international, national, regional, and local economic and business conditions and developments; changes in
the nature and volume of the portfolio; changes in the experience, ability and depth of lending management and
staff; changes in the volume and severity of past due, nonaccrual and other adversely graded loans; changes in
quality of the loan review system; changes in the value of the underlying collateral for collateral-dependent
loans; concentrations of credit; and the effect of the other external factors such as competition and legal and
regulatory requirements.
Most of the Company’s business activity is with customers located in California within the Southern Central
San Joaquin Valley; in the corridor stretching between Santa Paula and Santa Clarita in Southern California,
and on the Central Coast. Therefore the Company’s exposure to credit risk is significantly affected by changes
in the economy in those regions. The Company considers this concentration of credit risk when assessing and
assigning qualitative factors in the allowance for loan losses. Portfolio segments identified by the Company
include Agricultural, Commercial and Industrial, Real Estate, Small Business Administration, and Consumer
loans. Relevant risk characteristics for these portfolio segments generally include debt service coverage, loan-
to-value ratios and financial performance on non-consumer loans; and credit scores, debt-to-income ratios,
collateral type and loan-to-value ratios for consumer loans.
Though management believes the allowance for loan and lease losses to be adequate, ultimate losses may vary
from their estimates. However, estimates are reviewed periodically, and as adjustments become necessary they
are reported in earnings during the periods they become known. In addition, the FDIC and the California
Department of Business Oversight, as an integral part of their examination processes, review the allowance for
loan and lease losses. These agencies may require additions to the allowance for loan and lease losses based on
their judgment about information available at the time of their examinations.
Reserve for Off-Balance Sheet Commitments
In addition to the exposure to credit loss from outstanding loans, the Company is also exposed to credit loss
from certain off-balance sheet commitments such as unused commitments from revolving lines of credit,
mortgage warehouse lines of credit, construction loans and commercial and standby letters of credit. Because
the available funds have not yet been disbursed on these commitments the estimated losses are not included in
the calculation of the ALLL. The reserve for off-balance sheet commitments is an estimated loss contingency
which is included in other liabilities on the Consolidated Balance Sheets. The adjustments to the reserve for
off-balance sheet commitments are reported as a noninterest expense. This reserve is for estimated losses that
could occur when the Company is contractually obligated to make a payment under these instruments and must
seek repayment from a party that may not be as financially sound in the current period as it was when the
commitment was originally made.
Premises and Equipment
Land is carried at cost. Premises and equipment are stated at cost less accumulated depreciation. Depreciation
is computed using the straight-line method over the estimated useful lives of the assets. The useful lives of
premises range between twenty-five to thirty-nine years. The useful lives of furniture, fixtures and equipment
range between three to twenty years. Leasehold improvements are amortized over the life of the asset or the
term of the related lease, whichever is shorter. When assets are sold or otherwise disposed of, the cost and
related accumulated depreciation are removed from the accounts, and any resulting gain or loss is recognized in
income for the period. The cost of maintenance and repairs is charged to expense as incurred.
Impairment of long-lived assets is evaluated by management based upon an event or changes in circumstances
surrounding the underlying assets which indicate long-lived assets may be impaired.
70
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Foreclosed Assets
Foreclosed assets include real estate and other property acquired in full or partial settlement of loan obligations.
Upon acquisition, any excess of the recorded investment in the loan balance over the appraised fair market
value, net of estimated selling costs, is charged against the allowance for loan and lease losses. A valuation
allowance for losses on foreclosed assets is maintained to provide for declines in value. The allowance is
established through a provision for losses on foreclosed assets which is included in other non-interest expense.
Subsequent gains or losses on sales or write-downs resulting from permanent impairments are recorded in other
non-interest expense as incurred. Operating costs after acquisition are expensed.
The Company had two foreclosed residential real estate properties recorded at December 31, 2018, as a result
of obtaining physical possession of the property. At December 31, 2018, the recorded investment of consumer
mortgage loans secured by residential real estate properties for which formal foreclosure proceeds were in
process was $111,000.
Goodwill and Other Intangible Assets
The Company acquired Sierra National Bank in 2000, Santa Clara Valley Bank in 2014, Coast National Bank
in 2016, and Ojai Community Bank and the Woodlake Branch of Citizen’s Business Bank in 2017. Goodwill
resulting from business combinations after January 1, 2009 is generally determined as the excess of the fair
value of the consideration transferred, plus the fair value of any noncontrolling interests in the acquiree, over
the fair value of the net assets acquired and liabilities assumed as of the acquisition date.
Goodwill and intangible assets acquired in a purchase business combination and determined to have an
indefinite useful life are not amortized, but are tested for impairment at least annually or more frequently if
events and circumstances exist which indicate that an impairment test should be performed. The Company
selected December 31, 2018 as the date to perform the annual impairment test for 2018. Goodwill is the only
intangible asset with an indefinite life on our balance sheet. There was no impairment recognized for the years
ended December 31, 2018, 2017, and 2016.
Intangible assets with definite useful lives are amortized over their estimated useful lives to their estimated
residual values. The Company’s other intangible assets consist solely of core deposit intangible assets (CDI’s)
arising from the acquisitions of Santa Clara Valley Bank, Coast National Bank, a Citizen’s Business Bank
Porterville branch deposit portfolio, Ojai Community Bank, the Woodlake Branch of Citizen’s Business Bank
and the Lompoc branch of Santa Maria Community Bank. All of the CDI’s are being amortized on a straight
line basis over eight years, except for the Citizen’s Business Bank Porterville branch deposit portfolio which is
being amortized on a straightline basis over five years.
Loan Commitments and Related Financial Instruments
Financial instruments include off-balance sheet credit instruments, such as commitments to make loans and
commercial letters of credit, issued to meet customer financing needs. The face amount for these items
represents the exposure to loss, before considering customer collateral or ability to repay. Such financial
instruments are recorded when they are funded. Details regarding these commitments and financial instruments
are discussed in detail in Note 12 to the consolidated financial statements.
Income Taxes
The Company files its income taxes on a consolidated basis with its subsidiary. The allocation of income tax
expense represents each entity’s proportionate share of the consolidated provision for income taxes.
Income tax expense is the total of the current year income tax due or refundable and the change in deferred tax
assets and liabilities. Deferred tax assets and liabilities are the expected future tax amounts for the temporary
differences between carrying amounts and tax basis of assets and liabilities, computed using enacted tax rates.
A valuation allowance, if needed, reduces deferred tax assets to the amount expected to be realized.
71
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
A tax position is recognized as a benefit only if it is “more likely than not” that the tax position would be
sustained in a tax examination, with a tax examination being presumed to occur. The amount recognized is the
largest amount of tax benefit that is greater than 50% likely to be realized on examination. For tax positions not
meeting the “more likely than not” test, no tax benefit is recorded. We have determined that as of December
31, 2018 all tax positions taken to date are highly certain and, accordingly, no accounting adjustment has been
made to the financial statements.
The Company recognizes interest and penalties related to uncertain tax positions as part of income tax expense.
Salary Continuation Agreements and Directors’ Retirement Plan
The Company has entered into agreements to provide members of the Board of Directors and certain key
executives, or their designated beneficiaries, with annual benefits for up to fifteen years after retirement or death.
The Company accrues for these future benefits from the effective date of the plan until the director’s or
executive’s expected retirement date in a systematic and rational manner. At the consolidated balance sheet
date, the amount of accrued benefits equals the then present value of the benefits expected to be provided to the
director or employee, any beneficiaries, and covered dependents in exchange for the director’s or employee’s
services to that date.
Comprehensive Income
Comprehensive income consists of net income and other comprehensive income. Other comprehensive income
includes unrealized gains and losses on securities available for sale, net of an adjustment for the effects of
realized gains and losses and any applicable tax. Comprehensive income is a more inclusive financial reporting
methodology that includes disclosure of other comprehensive income that historically has not been recognized
in the calculation of net income. Unrealized gains and losses on the Company’s available for sale securities are
included in other comprehensive income after adjusting for the effects of realized gains and losses. Total
comprehensive income and the components of accumulated other comprehensive income (loss) are presented
in the consolidated statements of comprehensive income.
Stock-Based Compensation
At December 31, 2018, the Company had one stock-based compensation plan, the Sierra Bancorp 2017 Stock
Incentive Plan (the “2017 Plan”), which was adopted by the Company’s Board of Directors on March 16, 2017
and approved by the Company’s shareholders on May 24, 2017. The 2017 Plan replaced the Company’s 2007
Stock Incentive Plan (the “2007” Plan), which expired by its own terms on March 15, 2017. Options to purchase
shares granted under the 2007 Plan that remained outstanding were unaffected by that plan’s termination. The
2017 Plan covers 850,000 shares of the Company’s authorized but unissued common stock, subject to
adjustment for stock splits and dividends, and provides for the issuance of both “incentive” and “nonqualified”
stock options to salaried officers and employees, and of “nonqualified” stock options to non-employee directors.
The 2017 Plan also provides for the issuance of restricted stock awards to these same classes of eligible
participants. We have not issued, nor do we currently have plans to issue, restricted stock awards.
72
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Compensation cost and director’s expense is recognized for stock options issued to employees and directors and
is recognized over the required service period, generally defined as the vesting period. The Company is using
the Black-Scholes model to value stock options. The “multiple option” approach is used to allocate the resulting
valuation to actual expense for current period. Expected volatility is based on historical volatility of the
Company’s common stock. The Company uses historical data to estimate option exercise and post-vesting
termination behavior. The expected term of options granted is based on historical data and represents the period
of time that options granted are expected to be outstanding subsequent to vesting, which takes into account that
the options are not transferable. The risk-free interest rate for the expected term of the option is based on the
U.S. Treasury yield curve in effect at the time of the grant. The fair value of each option is estimated on the
date of grant using the following assumptions:
Years Ended December 31,
2017
2016
2018
Dividend yield.............................................................
Expected Volatility .....................................................
Risk-free interest rate ..................................................
Expected option life .................................................... 5.3 years
2.12%
26.26%
2.38%
1.70%
26.47%
1.92%
2.55%
24.62%
1.14%
5.0 years
5.0 years
Recent Accounting Pronouncements
In May 2014 the FASB issued Accounting Standards Update (“ASU”) 2014-09, Revenue from Contracts with
Customers (Topic 606). This ASU is the result of a joint project initiated by the FASB and the International
Accounting Standards Board (“IASB”) to clarify the principles for recognizing revenue, and to develop common
revenue standards and disclosure requirements that would: (1) remove inconsistencies and weaknesses in
revenue requirements; (2) provide a more robust framework for addressing revenue issues; (3) improve
comparability of revenue recognition practices across entities, industries, jurisdictions, and capital markets; (4)
provide more useful information to users of financial statements through improved disclosures; and (5) simplify
the preparation of financial statements by reducing the number of requirements to which an entity must refer.
The guidance affects any entity that either enters into contracts with customers to transfer goods or services or
enters into contracts for the transfer of nonfinancial assets. The core principle is that an entity should recognize
revenue to depict the transfer of promised goods or services to customers in an amount that reflects the
consideration to which the entity expects to be entitled in exchange for those goods or services. The guidance
provides steps to follow to achieve the core principle. An entity should disclose sufficient information to enable
users of financial statements to understand the nature, amount, timing and uncertainty of revenue and cash flows
arising from contracts with customers. Qualitative and quantitative information is required with regard to
contracts with customers, as well as for significant judgments and changes in judgments, and assets recognized
from the costs to obtain or fulfill a contract. The guidance does not apply to revenue associated with financial
instruments such as loans and investments, which is accounted for under other provisions of GAAP. ASU 2014-
09 is effective for annual reporting periods beginning after December 15, 2017, including interim periods
therein, and the Company thus adopted ASU 2014-09 on January 1, 2018 utilizing the modified retrospective
approach. The Company’s primary source of revenue is derived from income on financial instruments, which
is not impacted by the guidance in ASU 2014-09. Furthermore, the Company evaluated the nature of its non-
interest income, and determined that for income associated with customer contracts transaction prices are
typically fixed and performance obligations are satisfied as services are rendered. Therefore, there is little or
no judgment involved in the timing of revenue recognition under contracts within the scope of ASU 2014-09,
and there was no impact on our financial statements upon the adoption of ASU 2014-09. Please see Note 23 to
the consolidated financial statements for more detailed disclosure information.
In January 2016 the FASB issued ASU 2016-01, Financial Instruments–Overall: Recognition and Measure-
ment of Financial Assets and Financial Liabilities. This guidance addresses certain aspects of recognition,
measurement, presentation and disclosure of financial instruments. Among other things, the guidance in this
ASU (i) requires equity investments, with certain exceptions, to be measured at fair value with changes in fair
value recognized in net income, (ii) simplifies the impairment assessment of equity investments without readily
determinable fair values by requiring a qualitative assessment to identify impairment, (iii) eliminates the
73
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
requirement for public entities to disclose the methods and significant assumptions used to estimate the fair
value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet,
(iv) requires public business entities to use the exit price notion when measuring the fair value of financial
instruments for disclosure purposes, (v) requires an entity to present separately in other comprehensive income
the portion of the change in fair value of a liability resulting from a change in the instrument-specific credit risk
when the entity has elected to measure the liability at fair value in accordance with the fair value option for
financial instruments, (vi) requires separate presentation of financial assets and financial liabilities by
measurement category and form of financial asset on the balance sheet or in the accompanying notes to the
financial statements, and (vii) clarifies that an entity should evaluate the need for a valuation allowance on a
deferred tax asset related to available-for-sale securities. This amendment is effective for fiscal years beginning
after December 15, 2017, including interim periods within those fiscal years. Entities are required to apply the
amendment by means of a cumulative-effect adjustment as of the beginning of the fiscal year of adoption, except
for the amendment related to equity securities without readily determinable fair values which should be applied
prospectively to equity investments that exist as of the date of adoption. The Company adopted ASU 2016-01
effective January 1, 2018, and recorded an increase in equity securities without readily determinable values and
non-interest revenue for $1,183,000. In accordance with (iv) above, the Company measured the fair value of
its loan portfolio at December 31, 2018 using an exit price notion. See Note 19 Fair Value.
In February 25, 2016, the FASB issued Accounting Standards Update 2016-02, Leases (Topic 842). The new
standard is being issued to increase the transparency and comparability around lease obligations. Previously
unrecorded off-balance sheet obligations will now be brought more prominently to light by presenting lease
liabilities on the face of the balance sheet, accompanied by enhanced qualitative and quantitative disclosures in
the notes to the financial statements. This Update is generally effective for public business entities in fiscal
years beginning after December 15, 2018, including interim periods within those fiscal years. The Company has
several lease agreements, including 21 branch locations, one administrative office and three offsite ATM
locations which are currently considered operating leases, and therefore, not recognized on the Company’s
consolidated statements of condition. Effective January 1, 2019 the Company adopted ASU 2016-02 recording
a right of use asset and a corresponding lease liability for $10,300,000.
On March 30, 2016, the FASB issued ASU 2016-09, Compensation–Stock Compensation (Topic 718):
Improvements to Employee Share-Based Payment Accounting, as part of its simplification initiative. ASU 2016-
09 became effective for public business entities for annual reporting periods beginning after December 15, 2016,
and interim periods within that reporting period. Accordingly, the Company adopted ASU 2016-09 effective
January 1, 2017. Prior guidance dictated that as they relate to share-based payments, tax benefits in excess of
compensation costs (“windfalls”) were to be recorded in equity, and tax deficiencies (“shortfalls”) were to be
recorded in equity to the extent of previous windfalls and then to the income statement. ASU 2016-09 reduced
some of the administrative complexities by eliminating the need to track a windfall “pool,” but it increases the
volatility of income tax expense. ASU 2016-09 also removed the requirement to delay recognition of a windfall
tax benefit until such time as it reduces current taxes payable. Under this guidance, the benefit is recorded when
it arises, subject to normal valuation allowance considerations. This change was applied by us on a modified
retrospective basis, as required, with a cumulative-effect adjustment to opening retained earnings. Furthermore,
all tax-related cash flows resulting from share-based payments are now reported as operating activities on the
statement of cash flows, a change from the previous requirement to present windfall tax benefits as an inflow
from financing activities and an outflow from operating activities. However, cash paid by an employer when
directly withholding shares for tax withholding purposes is classified as a financing activity. Pursuant to the
guidance, entities were permitted to make an accounting policy election for the impact of forfeitures on expense
recognition for share-based payment awards. Forfeitures can be estimated in advance, as required previously,
or recognized as they occur. Estimates are still required in certain circumstances, such as when an award is
modified or a replacement award is issued in a business combination. If elected, the change to recognize
forfeitures when they occur would have been adopted using a modified retrospective approach, with a
cumulative effect adjustment recorded to opening retained earnings. We did not elect to recognize forfeitures
as they occur, and continue to estimate potential forfeitures in advance.
In September 2016 the FASB issued ASU 2016-13, Financial Instruments – Credit Losses (Topic 326):
Measurement of Credit Losses on Financial Instruments, which eliminates the probable initial recognition
threshold for credit losses in current U.S. GAAP, and instead requires an organization to record a current
74
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
estimate of all expected credit losses over the contractual term for financial assets carried at amortized cost.
This is commonly referred to as the current expected credit losses (“CECL”) methodology. Expected credit
losses for financial assets held at the reporting date will be measured based on historical experience, current
conditions, and reasonable and supportable forecasts. Another change from existing U.S. GAAP involves the
treatment of purchased credit deteriorated assets, which are more broadly defined than purchased credit impaired
assets in current accounting standards. When such assets are purchased, institutions will estimate and record an
allowance for credit losses that is added to the purchase price rather than being reported as a credit loss expense.
Furthermore, ASU 2016-13 updates the measurement of credit losses on available-for-sale debt securities, by
mandating that institutions record credit losses on available-for-sale debt securities through an allowance for
credit losses rather than the current practice of writing down securities for other-than-temporary impairment.
ASU 2016-13 will also require the enhancement of financial statement disclosures regarding estimates used in
calculating credit losses. ASU 2016-13 does not change the existing write-off principle in U.S. GAAP or current
nonaccrual practices, nor does it change accounting requirements for loans held for sale or certain other financial
assets which are measured at the lower of amortized cost or fair value. As a public business entity that is an
SEC filer, ASU 2016-13 becomes effective for the Company on January 1, 2020, although early application is
permitted for 2019. On the effective date, institutions will apply the new accounting standard as follows: for
financial assets carried at amortized cost, a cumulative-effect adjustment will be recognized on the balance sheet
for any change in the related allowance for loan and lease losses generated by the adoption of the new standard;
financial assets classified as purchased credit impaired assets prior to the effective date will be reclassified as
purchased credit deteriorated assets as of the effective date, and will be grossed up for the related allowance for
expected credit losses created as of the effective date; and, debt securities on which other-than-temporary
impairment had been recognized prior to the effective date will transition to the new guidance prospectively
with no change in their amortized cost basis. The Company is well under way with transition efforts. We have
established an implementation team which is chaired by our Chief Credit Officer and includes the Company’s
other executive officers, along with certain members of our credit administration and finance departments.
Furthermore, after extensive discussion and due diligence, we engaged a third-party vendor and purchased a
specialized application to assist in our calculation of potential required reserves utilizing the CECL methodology
and to help validate our current reserving methodology. A preliminary evaluation indicates that the provisions
of ASU 2016-13 will likely have a material impact on our consolidated financial statements, particularly the
level of our allowance for credit losses and shareholders’ equity. While the potential extent of that impact has
not yet been definitively determined, initial estimates indicate that our allowance for loan and lease losses could
increase by 100% or more relative to current levels if utilizing a discounted cash flow methodology with
forecasting.
In January 2017 the FASB issued ASU 2017-01, Business Combinations (Topic 805): Clarifying the Definition
of a Business. Currently, Topic 805 specifies three elements of a business – inputs, processes, and outputs.
While an integrated set of assets and activities (collectively referred to as a “set”) that is a business usually has
outputs, outputs are not required. In addition, all the inputs and processes that a seller uses in operating a set are
not required if market participants can acquire the set and continue to produce outputs, for example, by
integrating the acquired set with their own inputs and processes. This led many transactions to be accounted
for as business combinations rather than asset purchases under legacy GAAP. The primary goal of ASU 2017-
01 is to narrow the definition of a business, and the guidance in this update provides a screen to determine when
a set is not a business. The screen requires that when substantially all of the fair value of the gross assets
acquired (or disposed of) is concentrated in a single identifiable asset or a group of similar identifiable assets,
the set is not a business. This screen reduces the number of transactions that need to be further evaluated. The
amendments in this update are effective for public business entities for fiscal years beginning after December
15, 2017, including interim periods within those fiscal years. The amendments in this update should be applied
prospectively on or after the effective date. The Company is currently evaluating this ASU to determine the
impact on its consolidated financial position, results of operations and cash flows.
In January 2017 the FASB issued ASU 2017-04, Intangibles – Goodwill and Other (Topic 350): Simplifying
the Accounting for Goodwill Impairment. This guidance removes Step 2 of the goodwill impairment test,
which requires a hypothetical purchase price allocation, and goodwill impairment will simply be the amount
by which a reporting unit’s carrying value exceeds its fair value, not to exceed the carrying amount of
goodwill. All other goodwill impairment guidance will remain largely unchanged. Entities will continue to
75
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
have the option to perform a qualitative assessment to determine if a quantitative impairment test is necessary.
The same one-step impairment test will be applied to goodwill at all reporting units, even those with zero or
negative carrying amounts. Entities will be required to disclose the amount of goodwill at reporting units with
zero or negative carrying amounts. The amendments in this update are effective for public business entities
for fiscal years beginning after December 15, 2019. We have not been required to record any goodwill
impairment to date, and after a preliminary review do not expect that this guidance would require us to do so
given current circumstances. Nevertheless, we will continue to evaluate ASU 2017-04 to more definitely
determine its potential impact on the Company’s consolidated financial position, results of operations and
cash flows.
In March 2017 the FASB issued ASU 2017-08, Receivables – Nonrefundable Fees and Other Costs
(Subtopic 310-20): Premium Amortization on Purchased Callable Debt Securities. The amendments in
this update shorten the amortization period for certain callable debt securities held at a premium, by
requiring the premium to be amortized to the earliest call date. Under current guidance, the premium on
a callable debt security is generally amortized as an adjustment to yield over the contractual life of the
instrument, and any unamortized premium is recorded as a loss in earnings upon the debtor’s exercise of
a call provision. Under ASU 2017-08, because the premium will be amortized to the earliest call date,
entities will no longer recognize a loss in earnings if a debt security is called prior to the contractual
maturity date. The amendments do not require an accounting change for securities held at a discount;
discounts will continue to be amortized as an adjustment to yield over the contractual life of the debt
instrument. ASU 2017-08 is effective for public business entities, including the Company, for fiscal
years, and interim periods within those fiscal years, beginning after December 15, 2018. Early adoption
is permitted, including adoption in an interim period. If an entity early adopts in an interim period, any
adjustments must be reflected as of the beginning of the fiscal year that includes that interim period. To
apply ASU 2017-08, entities must use a modified retrospective approach, with the cumulative-effect
adjustment recognized to retained earnings at the beginning of the period of adoption. Entities are also
required to provide disclosures about a change in accounting principle in the period of adoption. The
Company adopted ASU 2017-08 effective January 1, 2019 with no material impact on our financial
statements or operations.
In May 2017 the FASB issued ASU 2017-09, Compensation—Stock Compensation (Topic 718): Scope of
Modification Accounting. This update was issued to provide clarity, reduce diversity in practice, and lower cost
and complexity when applying the guidance in Topic 718. Under the updated guidance, an entity will be
expected to account for the effects of an equity award modification unless all the following are met: 1) the fair
value of the modified award is the same as the fair value of the original award immediately before the original
award is modified; 2) the vesting conditions of the modified award are the same as the vesting conditions of the
original award immediately before the original award is modified; 3) the classification of the modified award as
an equity instrument or a liability instrument is the same as the classification of the original award immediately
before the original award is modified. The current disclosure requirements in Topic 718 continue to apply.
ASU 2017-09 is effective for public business entities for fiscal years, and interim periods within those fiscal
years, beginning after December 15, 2017. The Company adopted ASU 2017-09 effective January 1, 2018, but
since we have not modified equity awards in the past and do not expect to do so in the future, there was no
impact on our financial statements or operations upon adoption.
In February 2018 the FASB issued ASU 2018-02, Income Statement - Reporting Comprehensive Income (Topic
220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income This ASU
requires a reclassification from accumulated other comprehensive income (AOCI) to retained earnings for
stranded tax effects resulting from the newly enacted federal corporate income tax rate in the Tax Cuts and Jobs
Act of 2017 (Tax Act), which was enacted on December 22, 2017. The Tax Act included a reduction to the
corporate income tax rate from 35 percent to 21 percent effective January 1, 2018. The amount of the
reclassification would be the difference between the historical corporate income tax rate and the newly enacted
21 percent corporate income tax rate. The amendments in this ASU are effective for fiscal years beginning after
December 15, 2018, including interim periods within those fiscal years. Early adoption is permitted. We have
adopted the guidance during the first quarter of 2018, retrospectively to December 31, 2017. The change in
76
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
accounting principle will be accounted for as a cumulative-effect adjustment to the balance sheet resulting in a
$413 thousand increase to retained earnings and a corresponding decrease to AOCI on December 31, 2017.
In May 2017 the FASB issued ASU 2017-09, Compensation—Stock Compensation (Topic 718): Scope of
Modification Accounting. This update was issued to provide clarity, reduce diversity in practice, and lower cost
and complexity when applying the guidance in Topic 718. Under the updated guidance, an entity will be
expected to account for the effects of an equity award modification unless all the following are met: 1) the fair
value of the modified award is the same as the fair value of the original award immediately before the original
award is modified; 2) the vesting conditions of the modified award are the same as the vesting conditions of the
original award immediately before the original award is modified; 3) the classification of the modified award as
an equity instrument or a liability instrument is the same as the classification of the original award immediately
before the original award is modified. The current disclosure requirements in Topic 718 continue to apply.
ASU 2017-09 is effective for public business entities for fiscal years, and interim periods within those fiscal
years, beginning after December 15, 2017. The Company adopted ASU 2017-09 effective January 1, 2018, but
since we have not modified equity awards in the past and do not expect to do so in the future, there was no
impact on our financial statements or operations upon adoption.
In August 2018 the FASB issued ASU 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework
– Changes to the Disclosure Requirements for Fair Value Measurement, as part of its disclosure framework
project. Pursuant to this guidance, disclosures that will no longer be required include the following: transfers
between Level 1 and Level 2 of the fair value hierarchy; transfers in and out of Level 3 for nonpublic entities,
as well as purchases and issuances and the Level 3 roll forward; a company’s policy for determining when
transfers between any of the three levels have occurred; the valuation processes used for Level 3 measurements;
and, the changes in unrealized gains or losses presented in earnings for Level 3 instruments held at the balance
sheet date for nonpublic entities. The following are additional disclosure requirements: for public entities, the
changes in unrealized gains and losses for the period included in other comprehensive income for recurring
Level 3 instruments held at the balance sheet date; for public entities, the range and weighted average of
significant unobservable inputs used for Level 3 measurements, although for certain unobservable inputs the
entity will be allowed to disclose other quantitative information in place of the weighted average to the extent
that it would be a more reasonable and rational method to reflect the distribution of unobservable inputs; for
nonpublic entities, some form of quantitative information about significant unobservable inputs used in Level 3
fair value measurements; and, for certain investments in entities that calculate the net asset value, disclosures
will be required about the timing of liquidation and redemption restrictions lapsing if the latter has been
communicated to the reporting entity. The guidance also clarifies that the Level 3 measurement uncertainty
disclosure should communicate information about the uncertainty at the balance sheet date. ASU 2018-13 is
effective for all entities in fiscal years beginning after December 15, 2019, including interim periods. Early
adoption is permitted. In addition, an entity may early adopt any of the removed or modified disclosures
immediately and delay adoption of the new disclosures until the effective date
3.
SECURITIES AVAILABLE-FOR-SALE
The amortized cost and fair value of the securities available-for-sale are as follows (dollars in thousands):
Amortized
Cost
December 31, 2018
Gross
Unrealized
Gains
Gross
Unrealized
Losses
U.S. government agencies ... $
Mortgage-backed securities.
State and political
subdivisions .........................
Total securities ............... $
15,553 $
414,208
140,181
569,942 $
12 $
398
(353) $
(9,873)
1,206
1,616 $
(853)
(11,079) $
Fair Value
15,212
404,733
140,534
560,479
77
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Amortized
Cost
December 31, 2017
Gross
Unrealized
Gains
Gross
Unrealized
Losses
U.S. government agencies ... $
Mortgage-backed securities.
State and political
subdivisions .........................
Total securities ............... $
21,524 $
399,203
140,909
561,636 $
70 $
816
2,673
3,559 $
(268) $
(6,217)
(381)
(6,866) $
Fair Value
21,326
393,802
143,201
558,329
For the years ended December 31, 2018, 2017, and 2016, proceeds from sales of securities available-for-sale
were $6.8 million, $45.7 million, and $21.5 million, respectively. Gains and losses on the sale of investment
securities are recorded on the trade date and are determined using the specific identification method.
Gross gains and losses from the sales and calls of securities for the years ended were as follows (dollars in
thousands):
2018
December 31,
2017
2016
Gross gains on sales and calls of securities ..................$
Gross losses on sales and calls of securities .................
Net gains on sales and calls of securities......................$
21 $
(19)
2 $
1,024 $
(524)
500 $
261
(38)
223
The Company has reviewed all sectors and securities in the portfolio for impairment. During the year ended
December 31, 2018 the Company realized gains through earnings from the sale and call of 11 debt securities
for $21,000. The securities were sold with 8 other debt securities, for which a $19,000 loss was realized, to
improve the structure of the portfolio at year end. During the year ended December 31, 2017, the Company
realized gains through earnings from the sale and call of 25 debt securities for $106,000 and one equity position
for $918,000. The securities were sold with 59 other debt securities, for which a $524,000 loss was realized, to
raise liquidity at year-end.
At December 31, 2018 and 2017, the Company had 552 and 396 securities with unrealized gross losses,
respectively. Information pertaining to these securities aggregated by investment category and length of time
that individual securities have been in a continuous loss position, follows (dollars in thousands):
Less than twelve months
Twelve months or longer
December 31, 2018
U.S. government agencies ........................................... $
Mortgage-backed securities.........................................
State and political subdivisions ...................................
Total ....................................................................... $
Gross
Unrealized
Losses
Gross
Unrealized
Losses
Fair Value
2,815 $
69,686
33,864
Fair Value
10,764
(9,156) 273,230
22,213
(1,020) $ 106,365 $ (10,059) $ 306,207
(54) $
(717)
(249)
(299) $
(604)
Less than twelve months
Twelve months or longer
December 31, 2017
Gross
Unrealized
Losses
Gross
Unrealized
Losses
(79) $
Fair Value
8,154 $
(2,420) 188,885
16,218
(2,588) $ 213,257 $
(89)
(189) $
Fair Value
7,100
(3,797) 158,344
11,562
(4,278) $ 177,006
(292)
U.S. government agencies ........................................... $
Mortgage-backed securities.........................................
State and political subdivisions ...................................
Total ....................................................................... $
78
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
The Company has concluded as of December 31, 2018 that all remaining securities, currently in an unrealized
loss position, are not other-than-temporarily-impaired. This assessment was based on the following factors: 1)
the Company has the ability to hold the securities, 2) the Company does not intend to sell the securities, 3) the
Company does not anticipate it will be required to sell the securities before recovery, 4) and the Company
expects to eventually recover the entire amortized cost basis of the securities.
The amortized cost and estimated fair value of securities available-for-sale at December 31, 2018 by contractual
maturity are shown below. Expected maturities will differ from contractual maturities because the issuers of
the securities may have the right to call or prepay obligations with or without penalties (dollars in thousands):
Amortized Cost
Fair Value
Maturing within one year ............................ $
Maturing after one year through five years.
Maturing after five years through ten years
Maturing after ten years ..............................
7,726 $
199,840
47,802
83,606
7,789
195,519
47,661
83,444
Securities not due at a single maturity date:
U.S. government agencies collateralized
by mortgage obligations..............................
$
230,968
569,942 $
226,066
560,479
Securities available-for-sale with amortized costs totaling $222,548,000 and estimated fair values totaling
$217,421,000 were pledged to secure other contractual obligations and short-term borrowing arrangements at
December 31, 2018 (see Note 9).
Securities available-for-sale with amortized costs totaling $183,941,000 and estimated fair values totaling
$182,717,000 were pledged to secure other contractual obligations and short-term borrowing arrangements at
December 31, 2017 (see Note 9).
At December 31, 2018, the Company’s investment portfolio included securities issued by 255 different
government municipalities and agencies located within 29 states with a fair value of $140,533,000. The largest
exposure to any single municipality or agency was $2.5 million (fair value) in six bonds issued for the
renovation, modernization and construction of various school facilities by the Lindsay Unified School District,
to be repaid by future tax revenues.
The Company’s investments in bonds issued by states, municipalities and political subdivisions are evaluated
in accordance with Supervision and Regulation Letter 12-15 (SR 12-15) issued by the Board of Governors of
the Federal Reserve System, “Investing in Securities without Reliance on Nationally Recognized Statistical
Rating Organization Ratings”, and other regulatory guidance. Credit ratings are considered in our analysis only
as a guide to the historical default rate associated with similarly-rated bonds. There have been no significant
differences in our internal analyses compared with the ratings assigned by the third party credit rating agencies.
79
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
The following table summarizes the amortized cost and fair values of general obligation and revenue bonds in
the Company’s investment securities portfolio at the indicated dates, identifying the state in which the issuing
municipality or agency operates for our largest geographic concentrations (dollars in thousands):
December 31, 2018
December 31, 2017
Amortized Cost Fair Value Amortized Cost Fair Value
General obligation bonds
State of Issuance:
Texas ......................................................................... $
California...................................................................
Washington................................................................
Ohio ...........................................................................
Illinois........................................................................
Oregon .......................................................................
Nevada.......................................................................
Other (20 and 19 states, respectively) .......................
Total general obligation bonds.............................
36,331 $ 36,199 $
27,357
26,928
16,062
16,036
8,601
8,639
6,838
6,827
4,115
4,152
3,345
3,287
14,091
14,116
116,291 116,633
32,824 $ 33,184
28,027
27,205
13,524
13,282
9,978
9,917
8,925
8,822
4,282
4,249
3,438
3,306
17,036
17,251
116,641 118,609
Revenue bonds
State of Issuance:
Texas .........................................................................
Utah ...........................................................................
Indiana .......................................................................
Washington................................................................
Virginia......................................................................
Other (11 and 12 states, respectively) .......................
Total revenue bonds.............................................
Total obligations of states and political
subdivisions.......................................................... $
7,526
5,364
2,641
1,751
1,341
5,267
23,890
7,506
5,353
2,654
1,780
1,315
5,293
23,901
7,088
5,397
2,664
1,764
1,613
5,742
24,268
7,172
5,454
2,721
1,811
1,626
5,808
24,592
140,181 $ 140,534 $
140,909 $ 143,201
The following table summarizes the amortized cost and fair value of revenue bonds in the Company’s
investment securities portfolio at the indicated dates, identifying the revenue source of repayment for our largest
source concentrations (dollars in thousands):
December 31, 2018
December 31, 2017
Amortized Cost
Fair Value
Amortized Cost
Fair Value
Revenue bonds
Revenue Source:
Water ..................................................... $
College & university..............................
Sales tax.................................................
Lease......................................................
Electric & power....................................
Other (12 and 14 sources, respectively)
Total revenue bonds ......................... $
6,942 $
2,583
2,932
2,053
1,027
8,353
23,890 $
6,946 $
2,604
2,901
2,068
1,047
8,335
23,901 $
5,160 $
3,649
4,375
3,657
2,076
5,351
24,268 $
5,230
3,715
4,417
3,706
2,116
5,408
24,592
80
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
4.
LOANS AND LEASES
The composition of the loan and lease portfolio is as follows (dollars in thousands):
Real estate:
December 31,
2018
2017
Secured by commercial and professional office
properties, including construction and
development ............................................................ $ 848,691 $ 701,658
384,542
Secured by residential properties ............................
140,516
Secured by farm land ..............................................
Total real estate loans ........................................ 1,453,930 1,226,716
46,796
135,662
138,020
10,626
Total loans ......................................................... 1,731,928 1,557,820
2,774
(9,043)
Loans, net........................................................... $1,724,780 $1,551,551
Agricultural...................................................................
Commercial and industrial............................................
Mortgage warehouse lines ............................................
Consumer......................................................................
Deferred loan and lease origination cost, net................
Allowance for loan and lease losses .............................
49,103
128,220
91,813
8,862
453,698
151,541
2,602
(9,750)
The Company monitors the credit quality of loans on a continuous basis using the regulatory and accounting
classifications of pass, special mention, substandard and impaired to characterize and qualify the associated
credit risk. Loans classified as “loss” are immediately charged-off. The Company uses the following definitions
of risk classifications:
Pass – Loans listed as pass include larger non-homogeneous loans not meeting the risk rating definitions
below and smaller, homogeneous loans not assessed on an individual basis.
Special Mention – Loans classified as special mention have the potential weakness that deserves
management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the
repayment prospects for the loan or of the institution’s credit position and some future date.
Substandard – Loans classified as substandard are those loans with clear and well-defined weaknesses
such as a highly leveraged position, unfavorable financial operating results and/or trends, or uncertain repayment
sources or poor financial condition, which may jeopardize ultimate recoverability of the debt.
Impaired – A loan is considered impaired, when, based on current information and events, it is probable
that the Company will be unable to collect all amounts due according to the contractual terms of the loan
agreement. Additionally, all loans classified as troubled debt restructurings are considered impaired.
81
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Credit quality classifications as of December 31, 2018 were as follows (dollars in thousands):
Pass
Special Mention Substandard Impaired
Total
Real estate:
1-4 family residential construction...................... $ 105,676 $
108,304
Other construction/land.......................................
230,022
1-4 family - closed-end .......................................
49,346
Equity lines .........................................................
Multi-family residential ......................................
54,504
292,886
Commercial real estate owner occupied .............
429,835
Commercial real estate non-owner occupied ......
148,680
Farmland .............................................................
Total real estate.............................................. 1,419,253
48,517
Agricultural...............................................................
110,413
Commercial and industrial........................................
91,813
Mortgage warehouse lines ........................................
Consumer loans ........................................................
7,851
Total gross loans and leases...................................... $1,677,847 $
— $
231
1,861
2,194
—
4,192
2,730
1,073
12,281
580
15,686
—
151
28,698 $
— $
—
1,310
64
—
3,021
4,354
146
— $ 105,676
109,023
488
236,825
3,632
56,320
4,716
54,877
373
301,324
1,225
438,344
1,425
151,541
1,642
8,895 13,501 1,453,930
49,103
6
128,220
1,744
91,813
—
8,862
821
9,311 $ 16,072 $1,731,928
—
377
—
39
Credit quality classifications as of December 31, 2017 were as follows (dollars in thousands):
Pass
Special Mention Substandard Impaired
Total
Real estate:
1-4 family residential construction...................... $
Other construction/land.......................................
1-4 family - closed-end .......................................
Equity lines .........................................................
Multi-family residential ......................................
Commercial real estate owner occupied .............
Commercial real estate non-owner occupied ......
Farmland .............................................................
74,256 $
57,421
197,309
53,825
42,539
255,228
369,801
138,732
Total real estate.............................................. 1,189,111
46,182
Agricultural...............................................................
108,609
Commercial and industrial........................................
138,020
Mortgage warehouse lines ........................................
Consumer loans ........................................................
9,067
Total gross loans and leases...................................... $1,490,989 $
— $
807
1,534
3,620
—
4,586
4,923
984
16,454
614
24,008
—
210
41,286 $
— $
—
1,204
521
—
2,715
3,132
507
74,256
— $
58,779
551
204,766
4,719
62,590
4,624
42,930
391
263,447
918
379,432
1,576
140,516
293
8,079 13,072 1,226,716
46,796
-
135,662
2,064
138,020
—
10,626
1,277
9,132 $ 16,413 $1,557,820
—
981
—
72
Loans may or may not be collateralized, and collection efforts are continuously pursued. Loans or leases may
be restructured by management when a borrower has experienced some change in financial status causing an
inability to meet the original repayment terms and where the Company believes the borrower will eventually
overcome those circumstances and make full restitution. Loans and leases are charged off when they are deemed
to be uncollectible, while recoveries are generally recorded only when cash payments are received subsequent
to the charge-off.
82
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
The following tables present the activity in the allowance for loan losses and the recorded investment in loans
and impairment method by portfolio segment for each of the years ending December 31, 2018, 2017, and 2016
(dollars in thousands):
Real Estate Agricultural
Consumer Unallocated Total
Commercial and
Industrial (1)
Allowance for credit losses:
Balance, December 31, 2015 ......................... $
Charge-offs ...............................................
Recoveries ................................................
Provision...................................................
Balance, December 31, 2016 .........................
Charge-offs ...............................................
Recoveries ................................................
Provision...................................................
Balance, December 31, 2017 .........................
Charge-offs ...............................................
Recoveries ................................................
Provision...................................................
Balance, December 31, 2018 ......................... $
4,783 $
(962)
983
(1,256)
3,548
(101)
2,235
(896)
4,786
(2,474)
374
3,145
5,831 $
722 $
—
14
(527)
209
(154)
5
148
208
—
23
25
256 $
2,533 $ 1,263 $
(1,905)
(344)
1,015
477
835
1,613
1,208
4,279
(2,161)
(669)
1,017
310
1,167
(1,148)
1,231
2,772
(2,226)
(608)
1,120
148
1,114
82
2,394 $ 1,239 $
1,122 $10,423
— (3,211)
— 2,489
(665)
—
457 9,701
— (3,085)
— 3,567
(411) (1,140)
46 9,043
— (5,308)
— 1,665
(16) 4,350
30 $ 9,750
Loans evaluated for impairment:
December 31, 2018
December 31, 2017
Individually Collectively Individually Collectively Individually Collectively
Real estate ........................................................ $ 13,501 $1,440,429 $ 13,072 $1,213,644 $ 16,569 $ 900,928
46,140
6
Agricultural ......................................................
Commercial and industrial (1) ...........................
284,367
1,744
Consumer .........................................................
10,503
821
Total loans........................................................ $ 16,072 $1,715,856 $ 16,413 $1,541,407 $ 20,593 $1,241,938
49,097
218,289
8,041
46,796
271,618
9,349
—
2,064
1,277
89
2,273
1,662
December 31, 2016
(1)
Includes mortgage warehouse lines
Reserves based on method of evaluation for impairment:
December 31, 2018
Specific General
937 $
Real estate.......................................................... $
2
Agricultural .......................................................
Commercial and industrial (1) ............................
918
151
Consumer...........................................................
Unallocated........................................................
—
Total loan loss reserves ..................................... $ 2,008 $
December 31, 2017
Specific General
728 $
—
188
237
—
7,742 $ 1,153 $
4,894 $
254
1,476
1,088
30
December 31, 2016
Specific General
488 $
24
608
287
—
7,890 $ 1,407 $
4,058 $
208
2,584
994
46
3,059
185
3,671
922
457
8,294
(1)
Includes mortgage warehouse lines
83
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
The following tables present the recorded investment in nonaccrual loans and loans past due over 30 days as of
December 31, 2018 and December 31, 2017 (dollars in thousands, except footnotes):
December 31, 2018
Real Estate:
30-59
Days
60-89
Days
Past Due Past Due Due(2)
90 Days Or
More Past
Total Past Due Current
Total Financing
Receivables
Non-
Accrual
Loans(1)
1-4 family residential construction . $
Other construction/land...................
1-4 family - closed-end ...................
Equity lines .....................................
Multi-family residential ..................
Commercial real estate owner
occupied ....................................
Commercial real estate non-
owner occupied .........................
Farmland .........................................
Total real estate loans ...............
— $
210
319
1,471
—
183
49
1,555
3,787
— $
—
—
—
—
—
—
—
—
— $
27
775
57
—
102
—
—
961
— $ 105,676 $
108,786
235,731
54,792
54,877
237
1,094
1,528
—
105,676 $
109,023
236,825
56,320
54,877
—
82
799
408
—
285
301,039
301,324
605
49
438,295
149,986
1,555
4,748 1,449,182
438,344
49
151,541 1,642
1,453,930 3,585
—
Agricultural ...........................................
1,567
Commercial and industrial ....................
—
Mortgage warehouse lines ....................
95
Consumer loans.....................................
Total gross loans and leases .................. $ 5,449 $
—
83
—
45
128 $
—
886
—
56
1,903 $
—
2,536
—
196
49,103
125,684
91,813
8,666
7,480 $1,724,448 $
49,103
—
128,220 1,425
91,813
-
146
8,862
1,731,928 $ 5,156
(1)
(2)
Included in Total Financing Receivables
As of December 31, 2018 there were no loans over 90 days past due and still accruing .
December 31, 2017
Real Estate:
30-59
Days
60-89
Days
Past Due Past Due Due(2)
90 Days Or
More Past
Total Past Due Current
Total Financing
Receivables
Non-
Accrual
Loans(1)
1-4 family residential construction . $
Other construction/land...................
1-4 family - closed-end ...................
Equity lines .....................................
Multi-family residential ..................
Commercial real estate owner
occupied ....................................
Commercial real estate non-
owner occupied .........................
Farmland .........................................
Total real estate loans ...............
— $
20
125
466
—
1,270
—
—
1,881
—
Agricultural ...........................................
730
Commercial and industrial ....................
—
Mortgage warehouse lines ....................
157
Consumer loans.....................................
Total gross loans and leases .................. $ 2,768 $
— $
—
—
—
—
—
—
—
—
—
496
—
64
560 $
— $
—
895
203
—
— $
20
1,020
669
—
74,256 $
58,759
203,746
61,921
42,930
74,256 $
58,779
204,766
62,590
42,930
—
77
871
922
—
—
1,270
262,177
263,447
236
—
—
1,098
—
1,172
—
46
2,316 $
—
—
379,432
140,516
2,979 1,223,737
379,432
140,516
123
293
1,226,716 2,522
-
2,398
—
267
46,796
133,264
138,020
10,359
5,644 $1,552,176 $
46,796 —
135,662 1,301
138,020
—
140
10,626
1,557,820 $ 3,963
(1)
(2)
Included in Total Financing Receivables
As of December 31, 2017 there were no loans over 90 days past due and still accruing.
84
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Generally, the Company places a loan or lease on nonaccrual status and ceases recognizing interest income
when it has become delinquent more than 90 days and/or when Management determines that the repayment of
principal and collection of interest is unlikely. The Company may decide that it is appropriate to continue to
accrue interest on certain loans more than 90 days delinquent if they are well-secured by collateral and collection
is in process. When a loan is placed on nonaccrual status, any accrued but uncollected interest for the loan is
reversed out of interest income in the period in which the loan’s status changed. Subsequent payments received
from the customer are applied to principal, and no further interest income is recognized until the principal has
been paid in full or until circumstances have changed such that payments are again consistently received as
contractually required.
85
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Individually impaired loans as of December 31, 2018 and December 31, 2017 were as follows (dollars in
thousands):
Unpaid Principal Recorded
Average Recorded Interest Income
Balance(1)
Investment(2) Related Allowance
Investment
Recognized(3)
December 31, 2018
With an Allowance Recorded
Real estate:
1-4 family residential construction ........ $
Other construction/land..........................
1-4 family - closed-end ..........................
Equity lines ............................................
Multifamily residential...........................
Commercial real estate - owner
occupied........................................
Commercial real estate - non-
owner occupied.............................
Farmland ................................................
Total real estate................................
Agricultural...................................................
Commercial and industrial ...........................
Consumer loans ............................................
With no Related Allowance Recorded
Real estate:
1-4 family residential construction ........ $
Other construction/land..........................
1-4 family - closed-end ..........................
Equity lines ............................................
Multifamily residential...........................
Commercial real estate - owner
occupied........................................
Commercial real estate - non-
owner occupied.............................
Farmland ................................................
Total real estate................................
Agricultural...................................................
Commercial and industrial ...........................
Consumer loans ............................................
Total ....................................................... $
— $
593
3,325
4,603
373
— $
438
3,325
4,550
373
842
723
1,572
—
11,308
6
1,724
813
13,851
1,425
—
10,834
6
1,534
764
13,138
— $
54
357
224
—
— $
50
307
166
—
502
502
—
1,642
2,779
—
238
182
3,199
17,050 $
—
1,642
2,667
—
211
56
2,934
16,072 $
— $
44
75
656
25
135
3
—
938
1
918
151
2,008
— $
—
—
—
—
—
—
—
—
—
—
—
—
2,008 $
— $
648
3,182
4,368
359
740
1,644
—
10,941
6
1,965
909
13,821
— $
58
375
221
—
478
—
1,538
2,670
—
838
273
3,781
17,602 $
—
40
175
206
20
40
107
—
588
—
40
61
689
—
—
3
—
—
—
—
—
3
—
—
1
4
693
(1)
(2)
(3)
Contractual principal balance due from customer.
Principal balance on Company's books, less any direct charge offs.
Interest income is recognized on performing balances on a regular accrual basis.
86
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Unpaid Principal Recorded
Average Recorded Interest Income
Balance(1)
Investment(2) Related Allowance
Investment
Recognized(3)
December 31, 2017
With an Allowance Recorded
Real estate:
1-4 family residential construction ...... $
Other construction/land .......................
1-4 family - closed-end........................
Equity lines ..........................................
Multifamily residential ........................
Commercial real estate- owner
occupied...............................................
Commercial real estate- non-owner
occupied...............................................
Farmland..............................................
Total real estate ..............................
Agricultural ...............................................
Commercial and industrial ........................
Consumer loans.........................................
With no Related Allowance Recorded
Real estate:
1-4 family residential construction ...... $
Other construction/land .......................
1-4 family - closed-end........................
Equity Lines.........................................
Multifamily residential ........................
Commercial real estate- owner
occupied...............................................
Commercial real estate- non-owner
occupied...............................................
Farmland..............................................
Total real estate ..............................
Agricultural ...............................................
Commercial and industrial ........................
Consumer loans.........................................
Total..................................................... $
— $
678
4,061
4,546
390
— $
523
4,054
4,446
391
926
801
1,724
—
12,325
—
917
1,210
14,452
1,576
—
11,791
—
917
1,201
13,909
— $
28
885
206
—
— $
28
665
178
—
117
117
10
293
1,539
—
1,158
230
2,927
17,379 $
—
293
1,281
—
1,147
76
2,504
16,413 $
— $
30
109
405
29
151
4
—
728
—
188
237
1,153
— $
—
—
—
—
—
—
—
—
—
—
—
—
1,153 $
— $
768
4,042
4,711
410
948
1,914
—
12,793
—
1,576
1,433
15,802
— $
34
746
208
—
157
25
327
1,497
—
1,433
317
3,247
19,049 $
—
44
226
154
24
44
111
—
603
—
83
96
782
—
—
2
—
—
—
—
—
2
—
—
—
2
784
(1)
(2)
(3)
Contractual principal balance due from customer.
Principal balance on Company's books, less any direct charge offs.
Interest income is recognized on performing balances on a regular accrual basis.
Included in loans above are troubled debt restructurings that were classified as impaired. The Company had
$602,000 and $908,000 in commercial loans, $10,630,000 and $11,410,000 in real estate secured loans and
$705,000 and $1,158,000 in consumer loans, which were modified as troubled debt restructurings and
consequently classified as impaired at December 31, 2018 and 2017, respectively.
Additional commitments to existing customers with restructured loans totaled $1,834,000 and $1,831,000 at
December 31, 2018 and 2017, respectively.
87
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Interest income recognized on impaired loans was $693,000, $784,000, and $1,041,000, for the years ended
December 31, 2018, 2017, and 2016, respectively. There was no interest income recognized on a cash basis on
impaired loans for the years ended December 31, 2018, 2017, and 2016, respectively.
The following is a summary of interest income from non-accrual loans in the portfolio at year-end that was not
recognized (dollars in thousands):
Interest that would have been recorded under
the loans’ original terms .................................................... $
Less gross interest recorded ....................................................
Foregone interest..................................................................... $
484 $
167
317 $
361 $
103
258 $
478
158
320
Years Ended December 31,
2018
2017
2016
Certain loans have been pledged to secure short-term borrowing arrangements (see Note 9). These loans totaled
$804,705,000 and $693,531,000 at December 31, 2018 and 2017, respectively.
Salaries and employee benefits totaling $4,173,000, $3,854,000, and $3,430,000, have been deferred as loan
and lease origination costs to be amortized over the estimated lives of the related loans and leases for the years
ended December 31, 2018, 2017, and 2016, respectively.
During the periods ended December 31, 2018 and 2017, the terms of certain loans were modified as troubled
debt restructurings. Types of modifications applied to these loans include a reduction of the stated interest rate,
a modification of term, an agreement to collect only interest rather than principal and interest for a specified
period, or any combination thereof.
The following tables present troubled debt restructurings by type of modification during the period ending
December 31, 2018 and December 31, 2017 (dollars in thousands):
December 31, 2018
Troubled debt restructurings
Real estate:
Rate
Interest Only Rate & Term
Modification Modification Modification Modification
Term
Total
Other construction/land ....................................... $
1-4 family - closed-end........................................
Equity lines..........................................................
Multi-family residential.......................................
Commercial real estate owner occupied..............
Commercial real estate non-owner occupied ......
Farmland..............................................................
Total real estate loans.....................................
Agricultural ...............................................................
Commercial and industrial........................................
Consumer loans.........................................................
$
— $
—
—
—
—
—
—
—
—
—
—
— $
— $
—
460
—
—
—
—
460
7
73
—
540 $
— $
—
504
—
—
—
—
504
—
25
10
539 $
— $
—
—
—
—
—
—
—
—
—
964
—
—
—
—
964
—
225
—
225 $
7
323
10
1,304
88
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
December 31, 2017
Troubled debt restructurings
Real estate:
Rate
Interest Only Rate & Term
Modification Modification Modification Modification
Term
Total
Other construction/land ....................................... $
1-4 family - closed-end........................................
Equity lines..........................................................
Multi-family residential.......................................
Commercial real estate owner occupied..............
Commercial real estate non-owner occupied ......
Farmland..............................................................
Total real estate loans.....................................
Agricultural ...............................................................
Commercial and industrial........................................
Consumer loans.........................................................
$
— $
—
—
—
—
—
—
—
—
—
—
— $
— $
—
643
—
529
—
—
1,172
—
15
7
1,194 $
— $
—
—
—
—
—
—
—
—
—
—
— $
— $
340
96
—
—
—
—
436
—
—
—
436 $
—
340
739
—
529
—
—
1,608
—
15
7
1,630
The following tables present loans by class modified as troubled debt restructurings including any subsequent
defaults during the period ending December 31, 2018 and December 31, 2017 (dollars in thousands):
December 31, 2018
Real estate:
Post-
Pre-
Modification
Modification
Outstanding Outstanding
Recorded Recorded Reserve
Number of Loans Investment Investment Difference(1)
Other construction/land........................................
1-4 family - closed-end ........................................
Equity lines ..........................................................
Multi-family residential .......................................
Commercial real estate - owner occupied ............
Commercial real estate - non-owner occupied.....
Farmland ..............................................................
Total real estate loans ....................................
Agricultural ...............................................................
Commercial and industrial ........................................
Consumer loans .........................................................
0
0
8
0
0
0
0
1
4
1
$
$
— $
—
964
—
—
—
—
964
— $
—
964
—
—
—
—
964
7
323
10
1,304 $
7
323
10
1,304 $
—
—
4
—
—
—
—
4
2
—
—
6
(1)
This represents the increase or (decrease) in the allowance for loans and lease losses reserve for these
credits measured as the difference between the specific post-modification impairment reserve and the pre-
modification reserve calculated under our general allowance for loan loss methodology.
89
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
December 31, 2017
Real estate:
Post-
Pre-
Modification
Modification
Outstanding Outstanding
Recorded Recorded Reserve
Number of Loans Investment Investment Difference(1)
Other construction/land........................................
1-4 family - closed-end ........................................
Equity lines ..........................................................
Multi-family residential .......................................
Commercial real estate - owner occupied ............
Commercial real estate - non-owner occupied.....
Farmland ..............................................................
Total real estate loans .....................................
Agricultural ...............................................................
Commercial and industrial ........................................
Consumer loans .........................................................
0
6
7
0
1
0
0
0
1
1
$
$
— $
340
739
—
529
—
—
1,608
—
15
7
1,630 $
— $
340
739
—
529
—
—
1,608
—
15
7
1,630 $
—
32
85
—
—
—
—
117
—
—
—
117
(1)
This represents the increase or (decrease) in the allowance for loans and lease losses reserve for these
credits measured as the difference between the specific post-modification impairment reserve and the pre-
modification reserve calculated under our general allowance for loan loss methodology.
In the tables above, there were no TDRs that subsequently defaulted necessitating an increase in the allowance
for loan and lease losses for the years ended December 31, 2018 and 2017. The total allowance for loan and
lease losses specifically allocated to the balances that were classified as TDRs during the year ended December
31, 2018 and 2017 is $1,048,000 and $957,000, respectively.
Loan Servicing
The Company originates mortgage loans for sale to investors. During the years ended December 31, 2018,
2017, and 2016, all mortgage loans that were sold by the Company were sold without retention of related
servicing. The Company’s servicing portfolio at December 31, 2018, 2017, and 2016 totaled $-0-, $-0-, and
$72,000, respectively.
Purchased Credit Impaired Loans
As part of the acquisitions described in Note 21 Business Combinations, the Company has purchased loans,
some of which have shown evidence of credit deterioration since origination and it was probable at acquisition
that all contractually required payments would not be collected. The carrying amount and unpaid principal
balance of those loans are as follows (dollars in thousands):
Real estate secured ........................................ $
Commercial and industrial ............................
Consumer ......................................................
Total purchased credit impaired loans .......... $
December 31, 2018
Unpaid Principal Balance Carrying Value
—
—
—
—
103 $
—
—
103 $
90
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Real estate secured ........................................ $
Commercial and industrial ............................
Consumer ......................................................
Total purchased credit impaired loans .......... $
December 31, 2017
Unpaid Principal Balance Carrying Value
17
—
—
17
148 $
—
—
148 $
For those purchased credit impaired loans disclosed above, the Company had increased the allowance for loan
losses by $-0-, $-0-, and $58,000 during 2018, 2017 and 2016. There is no accretable yield, or income
expected to be collected on these purchased credit impaired loans. During the years ended December 31,
2018 and 2017, there were no purchased credit impaired loans acquired.
91
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
5.
PREMISES AND EQUIPMENT
Premises and equipment at cost consisted of the following (dollars in thousands):
December 31,
2018
2017
Land .............................................................................. $
Buildings and improvements ........................................
Furniture, fixtures and equipment .................................
Leasehold improvements ..............................................
5,751 $
21,579
18,958
15,023
61,311
Less accumulated depreciation and amortization .........
Construction in progress ...............................................
$
32,712
901
29,500 $
5,261
20,255
18,899
15,013
59,428
30,375
335
29,388
Depreciation and amortization included in occupancy and equipment expense totaled $2,995,000, $2,852,000,
and $2,524,000, for the years ended December 31, 2018, 2017, and 2016, respectively.
Operating Leases
The Company leases certain of its properties under non-cancelable operating leases. Rental expense included
in occupancy and equipment expense totaled $2,257,000, $2,482,000, and $1,623,000 and for the years ended
December 31, 2018, 2017, and 2016, respectively.
Rent commitments, before considering renewal options that generally are present, were as follows (dollars in
thousands):
Year Ending December 31,
2019 ................................................................................. $
2020 .................................................................................
2021 .................................................................................
2022 .................................................................................
2023 .................................................................................
Thereafter ........................................................................
$
2,190
2,204
1,993
1,558
1,119
3,939
13,003
The Company generally has options to renew its properties facilities after the initial leases expire. The renewal
options range from one to ten years and are not included in the payments reflected above.
6.
GOODWILL AND INTANGIBLE ASSETS
Goodwill
The change in goodwill during the year is as follows (dollars in thousands):
Years Ended December 31,
2017
2016
2018
27,357 $
—
—
27,357 $
8,268 $
19,089
—
27,357 $
6,908
1,360
—
8,268
Balance at January 1.................................................... $
Acquired goodwill .......................................................
Impairment ..................................................................
Balance at December 31.............................................. $
92
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Impairment exists when a reporting unit’s carrying value of goodwill exceeds its fair value. Bank of the Sierra
(the “Bank”) is the only subsidiary of the Company that meets the materiality criteria necessary to be deemed
an operating segment, and because the Company exists primarily for the purpose of holding the stock of the
Bank we have determined that only one unified operating segment (the consolidated Company) exists. At
December 31, 2018, the Company had positive equity and the Company elected to perform a qualitative
assessment to determine if it was more likely than not that the fair value of the Company exceeded its carrying
value, including goodwill. The qualitative assessment indicated that it was more likely than not that the fair
value of the reporting unit exceeded its carrying value, resulting in no impairment.
Acquired Intangible Assets
Acquired intangible assets were as follows at year-end (dollars in thousands):
Years Ended December 31,
2018
2017
Core deposit intangibles............................................. $
8,401 $
1,946 $
7,160 $
Gross
Carrying
Amount
Accumulated
Amortization
Gross
Carrying
Amount
Accumulated
Amortization
926
Aggregate amortization expense was $1,020,000, $508,000, and $272,000 for 2018, 2017, and 2016.
Estimated amortization expense for each of the next five years and thereafter (dollars in thousands):
2019............................................................................ $
2020............................................................................
2021............................................................................
2022............................................................................
2023............................................................................
Thereafter ........................................................................ $
$
1,074
1,074
1,032
1,000
876
1,399
6,455
7.
OTHER ASSETS
Other assets consisted of the following (dollars in thousands):
December 31,
2018
2017
Accrued interest receivable ........................................... $
Deferred tax assets ........................................................
Investment in qualified affordable housing projects.....
Investment in limited partnerships ................................
Federal Home Loan Bank stock, at cost .......................
Other..............................................................................
$
8,587 $
8,654
5,905
3,049
9,894
14,475
50,564 $
7,682
6,527
8,440
3,138
9,594
9,332
44,713
The Company has invested in limited partnerships that operate qualified affordable housing projects to receive
tax benefits in the form of tax deductions from operating losses and tax credits. The Company accounts for
these investments under the cost method and management analyzes these investments annually for potential
impairment. The Company had $1,958,000 in remaining capital commitments to these partnerships at
December 31, 2018.
The Company holds certain equity investments that are not readily marketable securities and thus are classified
as “other assets” on the Company’s balance sheet. These include investments in Pacific Coast Bankers
Bancshares, California Economic Development Lending Initiative, and the Federal Home Loan Bank
93
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
(“FHLB”). The largest of these is the Company’s $9,894,000 investment in FHLB stock, carried at cost.
Quarterly, the FHLB evaluates and adjusts the Company’s minimum stock requirement based on the Company’s
borrowing activity and membership requirements. Any stock deemed in excess is automatically repurchased
by the FHLB at cost.
8.
DEPOSITS
Interest-bearing deposits consisted of the following (dollars in thousands):
December 31,
2018
2017
Interest bearing demand deposits ........... $
NOW ......................................................
Savings ...................................................
Money market ........................................
Time, under $250,000 ............................
Time, $250,000 or more .........................
$
101,243
434,483
283,953
123,807
262,901
247,426
1,453,813
$
$
118,533
405,057
283,126
171,611
175,336
199,289
1,352,952
Aggregate annual maturities of time deposits were as follows (dollars in thousands):
Year Ending December 31,
2019 ................................................................................. $
2020 .................................................................................
2021 .................................................................................
2022 .................................................................................
2023 .................................................................................
Thereafter ........................................................................
$
499,067
6,565
2,402
998
534
761
510,327
Interest expense recognized on interest-bearing deposits consisted of the following (dollars in thousands):
Year Ended December 31,
2017
2016
2018
Interest bearing demand deposits ................................ $
NOW............................................................................
Savings ........................................................................
Money market..............................................................
CDAR's........................................................................
Time deposits...............................................................
Brokered Deposits .......................................................
$
364 $
478
314
146
—
5,653
305
7,260 $
417 $
427
258
157
—
2,503
—
3,762 $
399
361
229
80
4
1,101
—
2,174
94
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
9.
OTHER BORROWING ARRANGEMENTS
At year end, short-term borrowings consisted of the following (dollars in thousands):
2018
2017
Average
balance
outstanding Amount
Average
interest rate
during the year
Maximum
month-end
balance during
the year
Weighted
average
interest rate
at year-end
Average
balance
outstanding Amount
Average
interest rate
during the year
Maximum
month-end
balance during
the year
Weighted
average
interest rate
at year-end
As of December 31:
Repurchase
agreements............ $
Overnight federal
home loan bank
advances ...............
Fed funds
purchased..............
$
14,332 $ 16,359
.40 % $
17,672
.40 % $
8,514 $ 8,150
.40 % $
11,409
.40 %
8,967 56,100
2.19 %
56,100
2.43 %
7,074 21,900
.82 %
55,000
.82 %
22
—
23,321 $ 72,459
—
$
850
74,622
—
166
—
15,754 $ 30,050
$
0.60 %
$
5,500
71,909
—
Each FHLB advance is payable at its maturity date, with a prepayment penalty for fixed rate advances. The
advances were collateralized by $724,210,000 of first mortgage loans under a blanket lien arrangement at year
end 2018. Based on this collateral and the Company’s holdings of FHLB stock, the Company was eligible to
borrow up to the total of $538,146,000 at year-end 2018, with a remaining borrowing capacity of $464,179,000
if sufficient additional collateral was pledged.
The Company had no borrowings at December 31, 2018 and 2017, respectively from the FRB. The Company
was eligible to borrow up to $64,230,000 at year end 2018, which was collateralized by $80,496,000 in first
mortgage loans under a blanket lien arrangement.
The Company had no long-term borrowings at December 31, 2018 and 2017, respectively.
The Company had unsecured lines of credit with its correspondent banks which, in the aggregate, amounted to
$80,000,000 at December 31, 2018 and 2017, respectively, at interest rates which vary with market conditions.
There was $0 outstanding under these lines of credit at December 31, 2018 and December 31, 2017, respectively.
10.
INCOME TAXES
The provision for income taxes follows (dollars in thousands):
Federal:
Current ................................... $
Effect of tax act ......................
Deferred .................................
State:
Current ...................................
Deferred.......................................
$
2018
Year Ended December 31,
2017
2016
5,780
—
179
5,959
3,819
129
3,948
9,907
$
$
8,456
2,710
(828)
10,338
3,604
(302)
3,302
13,640
$
$
11,517
—
(5,325)
6,192
3,396
(788)
2,608
8,800
95
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
The components of the net deferred tax asset, included in other assets, are as follows (dollars in thousands):
Deferred tax assets:
Allowance for loan losses ........................... $
Foreclosed assets ........................................
Deferred compensation ...............................
Accrued reserves.........................................
Non accrual loans .......................................
Net operating loss carryforward .................
Net unrealized loss on securities available-
for-sale ........................................................
Other ...........................................................
Total deferred tax assets .............................
Deferred tax liabilities:
Premises and equipment .............................
Deferred loan costs .....................................
Other ...........................................................
Total deferred tax liabilities ..................
Net deferred tax assets........................... $
December 31,
2018
2017
$
2,882
704
3,538
421
205
2,131
2,798
3,510
16,189
(833)
(2,656)
(4,046)
(7,535)
$
8,654
2,777
868
3,498
416
190
2,354
978
3,850
14,931
(1,301)
(2,344)
(4,759)
(8,404)
6,527
On December 22, 2017, the U.S. government enacted comprehensive tax legislation commonly referred to as
the Tax Cuts and Jobs Act (“Tax Act”). Amont other changes, the Tax Act reduces the U.S. federal corporate
tax rate from 35% to 21%. For the year ended December 31, 2017, the Company recorded an income tax
expense of $2.7 million related to the remeasurement of federal net deferred tax assets resulting from the
permanent reduction in the U.S. statutory corporate tax rate to 21% from 35%.
The expense for income taxes differs from amounts computed by applying the statutory Federal income tax
rates to income before income taxes. The significant items comprising these differences consisted of the
following (dollars in thousands):
Income tax expense at federal statutory
rate......................................................... $
Increase (decrease) resulting from:
State franchise tax expense, net of
federal tax effect ..............................
Tax exempt municipal income ........
Affordable housing tax credits ........
Effect of the tax act..........................
Excess tax benefit of stock-based
compensation...................................
Other ................................................
Effective tax rate..............................
2018
Year Ended December 31,
2017
2016
8,313
$
11,613
$
9,228
3,390
(852)
(632)
—
(177)
(135)
9,907
25.0%
2,363
(1,299)
(711)
2,710
(248)
(788)
13,640
41.1%
1,705
(1,053)
(685)
—
—
(395)
8,800
33.4%
The Company is subject to federal income tax and income tax of the state of California. Our federal income tax
returns for the years ended December 31, 2015, 2016 and 2017 are open to audit by the federal authorities and
our California state tax returns for the years ended December 31, 2014, 2015, 2016 and 2017 are open to audit
by the state authorities.
96
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
The Company has net operating loss carry forwards of approximately $7,041,000 for federal income and
approximately $7,623,000 for California franchise tax purposes. Net operating loss carry forwards, to the extent
not used will begin to expire in 2030. Net operating loss carry forwards available from acquisitions are
substantially limited by Section 382 of the Internal Revenue Code and benefits not expected to be realized due
to the limitation have been excluded from the deferred tax asset and net operating loss carry forward amounts
noted above.
There were no recorded interest or penalties related to uncertain tax positions as part of income tax for the years
ended December 31, 2018, 2017, and 2016, respectively. We do not expect the total amount of unrecognized
tax benefits to significantly increase or decrease within the next twelve months.
11.
SUBORDINATED DEBENTURES
Sierra Statutory Trust II (“Trust II”), Sierra Capital Trust III (“Trust III”), and Coast Bancorp Statutory Trust II
(“Trust IV”), (collectively, the “Trusts”) exist solely for the purpose of issuing trust preferred securities fully
and unconditionally guaranteed by the Company. For financial reporting purposes, the Trusts are not
consolidated and the Floating Rate Junior Subordinated Deferrable Interest Debentures (the “Subordinated
Debentures”) held by the Trusts and issued and guaranteed by the Company are reflected in the Company’s
consolidated balance sheet in accordance with provisions of ASC Topic 810. Under applicable regulatory
guidance, the amount of trust preferred securities that is eligible as Tier 1 capital is limited to twenty-five percent
of the Company’s Tier 1 capital on a pro forma basis. At December 31, 2018, all $34,767,000 of the Company’s
trust preferred securities qualified as Tier 1 capital.
During the first quarter of 2004, Sierra Statutory Trust II issued 15,000 Floating Rate Capital Trust Pass-
Through Securities (TRUPS II), with a liquidation value of $1,000 per security, for gross proceeds of
$15,000,000. The entire proceeds of the issuance were invested by Trust II in $15,464,000 of Subordinated
Debentures issued by the Company, with identical maturity, re-pricing and payment terms as the TRUPS II.
The Subordinated Debentures, purchased by Trust II, represent the sole assets of the Trust II. Those
Subordinated Debentures mature on March 17, 2034, bear a current interest rate of 5.54% (based on 3-month
LIBOR plus 2.75%), with re-pricing and payments due quarterly.
Those Subordinated Debentures are currently redeemable by the Company, subject to receipt by the Company
of prior approval from the Federal Reserve Bank, on any March 17th, June 17th, September 17th, or December
17th. The redemption price is par plus accrued and unpaid interest, except in the case of redemption under a
special event which is defined in the debenture.
The TRUPS II are subject to mandatory redemption to the extent of any early redemption of the related
Subordinated Debentures and upon maturity of the Subordinated Debentures on March 17, 2034.
Trust II has the option to defer payment of the distributions for a period of up to five years, subject to certain
conditions, including that the Company may not pay dividends on its common stock during such period. The
TRUPS II issued in the offering were sold in private transactions pursuant to an exemption from registration
under the Securities Act of 1933, as amended. The Company has guaranteed, on a subordinated basis,
distributions and other payments due on the TRUPS II.
During the second quarter of 2006, Sierra Capital Trust III issued 15,000 Floating Rate Capital Trust Pass-
Through Securities (TRUPS III), with a liquidation value of $1,000 per security, for gross proceeds of
$15,000,000. The entire proceeds of the issuance were invested by Trust III in $15,464,000 of Subordinated
Debentures issued by the Company, with identical maturity, repricing and payment terms as the TRUPS III.
The Subordinated Debentures, purchased by Trust III, represent the sole assets of the Trust III. Those
Subordinated Debentures mature on September 23, 2036, bear a current interest rate of 4.22% (based on 3-
month LIBOR plus 1.40%), with repricing and payments due quarterly.
Those Subordinated Debentures are redeemable by the Company, subject to receipt by the Company of prior
approval from the Federal Reserve Bank, on any March 23rd, June 23rd, September 23rd, or December 23rd. The
redemption price is par plus accrued and unpaid interest, except in the case of redemption under a special event
which is defined in the debenture. The TRUPS III are subject to mandatory redemption to the extent of any
97
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
early redemption of the related Subordinated Debentures and upon maturity of the Subordinated Debentures on
September 23, 2036.
Trust III has the option to defer payment of the distributions for a period of up to five years, subject to certain
conditions, including that the Company may not pay dividends on its common stock during such period. The
TRUPS III issued in the offering were sold in private transactions pursuant to an exemption from registration
under the Securities Act of 1933, as amended. The Company has guaranteed, on a subordinated basis,
distributions and other payments due on the TRUPS III.
During the third quarter of 2016, the Company acquired Coast Bancorp Statutory Trust II, which had issued
7,000 Floating Rate Capital Trust Pass-Through Securities (TRUPS IV), with a liquidation value of $1,000 per
security, for gross proceeds of $7,000,000. The entire proceeds of the issuance were invested by Trust IV in
$7,217,000 of Subordinated Debentures issued by Coast Bancorp with identical maturity, re-pricing and
payment terms as the TRUPS IV. The Subordinated Debentures, purchased by Trust IV, represent the sole
assets of the Trust IV. Those Subordinated Debentures mature on December 15, 2037, bear a current interest
rate of 4.29% (based on 3-month LIBOR plus 1.50%), with re-pricing and payments due quarterly.
Those Subordinated Debentures are currently redeemable by the Company, subject to receipt by the Company
of prior approval from the Federal Reserve Bank, on any March 15th, June 15th, September 15th, or December
15th. The redemption price is par plus accrued and unpaid interest, except in the case of redemption under a
special event which is defined in the debenture.
The TRUPS IV are subject to mandatory redemption to the extent of any early redemption of the related
Subordinated Debentures and upon maturity of the Subordinated Debentures on December 15, 2037.
Coast Bancorp Statutory Trust II has the option to defer payment of the distributions for a period of up to five
years, subject to certain conditions, including that the Company may not pay dividends on its common stock
during such period. The TRUPS IV issued in the offering were sold in private transactions pursuant to an
exemption from registration under the Securities Act of 1933, as amended. The Company has guaranteed, on a
subordinated basis, distributions and other payments due on the TRUPS IV.
12. COMMITMENTS AND CONTINGENCIES
Letter of Credit
The Company holds two letters of credit with the Federal Home Loan Bank of San Francisco totaling
$95,446,000. An $90,000,000 letter of credit is pledged to secure public deposits at December 31, 2018 and a
$5,446,000 standby letter of credit was obtained on behalf of one of our customers to guarantee financial
performance. Should the standby letter of credit be drawn upon, the customer would reimburse the Company
from an existing line of credit.
Federal Reserve Requirements
Banks are required to maintain reserves with the Federal Reserve Bank equal to a specified percentage of their
reservable deposits less vault cash. Reserve balances maintained at the Federal Reserve Bank by the Company
were $2,674,000 and $-0- at December 31, 2018 and 2017, respectively.
Financial Instruments with Off-Balance-Sheet Risk
The Company is a party to financial instruments with off-balance-sheet risk in the normal course of business.
These financial instruments consist of commitments to extend credit and standby letters of credit. These
instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount
recognized in the consolidated balance sheet.
The Company’s exposure to credit loss in the event of nonperformance by the other party for commitments to
extend credit and letters of credit is represented by the contractual amount of those instruments. The Company
98
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
uses the same credit policies in making commitments and letters of credit as it does for loans included on the
balance sheet.
The following financial instruments represent off-balance-sheet credit risk (dollars in thousands):
December 31,
2017
Fixed-rate commitments to extend credit...................... $
89,842
Variable-rate commitments to extend credit ................. $ 685,339 $ 601,870
9,168
Standby letters of credit ................................................ $
2018
96,648 $
8,966 $
Commitments to extend credit consist primarily of the unused or unfunded portions of the following: home
equity lines of credit; commercial real estate construction loans, where disbursements are made over the course
of construction; commercial revolving lines of credit; mortgage warehouse lines of credit; unsecured personal
lines of credit; and formalized (disclosed) deposit account overdraft lines. Commitments generally have fixed
expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments
are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent
future cash requirements. Commitments to extend credit are made at both fixed and variable rates of interest as
stated in the table above. Standby letters of credit are generally unsecured and are issued by the Company to
guarantee the performance of a customer to a third party, while commercial letters of credit represent the
Company’s commitment to pay a third party on behalf of a customer upon fulfillment of contractual
requirements. The credit risk involved in issuing letters of credit is essentially the same as that involved in
extending loans to customers.
Concentration in Real Estate Lending
At December 31, 2018, in management’s judgment the Company had, a concentration of loans secured by real
estate. At that date, approximately 84% of the Company’s loans were real estate related. Balances secured by
commercial buildings and construction and development loans represented 58% of all real estate loans, while
loans secured by non-construction residential properties accounted for 31%, and loans secured by farmland were
10% of real estate loans. Although management believes the loans within these concentrations have no more
than the normal risk of collectability, a decline in the performance of the economy in general or a decline in real
estate values in the Company’s primary market areas, in particular, could have an adverse impact on
collectability.
Concentration by Geographic Location
The Company extends commercial, real estate mortgage, real estate construction and consumer loans to
customers primarily in the South Central San Joaquin Valley of California, specifically Tulare, Fresno, Kern,
Kings and Madera counties; the Southern California corridor between Santa Paula and Santa Clarita in the
counties of Ventura and Los Angeles; and the Coastal counties of San Luis Obispo, Ventura and Santa Barbara.
The ability of a substantial portion of the Company’s customers to honor their contracts is dependent on the
economy in these areas. Although the Company’s loan portfolio is diversified, there is a relationship in those
regions between the local agricultural economy and the economic performance of loans made to non-agricultural
customers.
Contingencies
The Company is subject to legal proceedings and claims which arise in the ordinary course of business. In the
opinion of management, the amount of ultimate liability with respect to such actions will not materially affect
the consolidated financial position or results of operations of the Company.
99
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
13.
SHAREHOLDERS’ EQUITY
Share Repurchase Plan
At December 31, 2018, the Company had a stock repurchase plan which has no expiration date. During the
year ended December 31, 2018, the Company did not repurchase any shares. The total number of shares
available for repurchase at December 31, 2018 was 478,954. Repurchases are generally made in the open market
at market prices.
Earnings Per Share
A reconciliation of the numerators and denominators of the basic and diluted earnings per share computations
is as follows:
For the Years Ended December 31,
2016
2017
2018
Basic Earnings Per Share
17,567
Net income (dollars in thousands).............................. $
Weighted average shares outstanding ........................ 15,261,794 14,172,196 13,530,293
1.30
Basic earnings per share ............................................. $
19,539 $
29,677 $
1.94 $
1.38 $
Diluted Earnings Per Share
Net income (dollars in thousands).............................. $
17,567
Weighted average shares outstanding ........................ 15,261,794 14,172,196 13,530,293
Effect of dilutive stock options ..................................
121,511
Weighted average shares outstanding ........................ 15,432,120 14,357,782 13,651,804
1.29
Diluted earnings per share.......................................... $
170,326
185,586
29,677 $
19,539 $
1.92 $
1.36 $
Stock options for 157,532, 90,000, and 466,520 shares of common stock were not considered in computing
diluted earnings per common share for 2018, 2017, and 2016, respectively, because they were antidilutive.
Stock Options
On March 16, 2017 the Company’s Board of Directors approved and adopted the 2017 Stock Incentive
Plan (the “2017 Plan”), which became effective May 24, 2017 pursuant to the approval of the Company’s
shareholders. The 2017 Plan replaced the Company’s 2007 Stock Incentive Plan (the “2007 Plan”), which
expired by its own terms on March 15, 2017. Options to purchase 370,020 shares that were granted under
the 2007 Plan were still outstanding as of December 31, 2018, and remain unaffected by that plan’s
expiration. The 2017 Plan provides for the issuance of both “incentive” and “nonqualified” stock options
to officers and employees, and of “nonqualified” stock options to non-employee directors and consultants
of the Company. The 2017 Plan also provides for the issuance of restricted stock awards to these same
classes of eligible participants, although no restricted stock awards have ever been issued by the Company.
The total number of shares of the Company’s authorized but unissued stock reserved for issuance pursuant
to awards under the 2017 Plan was initially 850,000 shares, and the number remaining available for grant
as of December 31, 2018 was 767,000.
All options granted under the 2017 and 2007 Plans have been or will be granted at an exercise price of not
less than 100% of the fair market value of the stock on the date of grant, exercisable in installments as
provided in individual stock option agreements. In the event of a “Change in Control” as defined in the
Plans, all outstanding options shall become exercisable in full (subject to certain notification requirements),
and shall terminate if not exercised within a specified period of time unless such options are assumed by
the successor corporation or substitute options are granted. Options also terminate in the event an optionee
ceases to be employed by or to serve as a director of the Company or its subsidiaries, and the vested portion
thereof must be exercised within a specified period after such cessation of employment or service.
100
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
A summary of the Company’s stock option activity follows (shares in thousands, except exercise price):
2018
2017
2016
Shares
Weighted Average
Exercise Price
Aggregate
Intrinsic
Value (1)
Shares
Weighted Average
Exercise Price
Shares
Weighted Average
Exercise Price
Outstanding,
beginning of year ....................... 455 $
(77) $
Exercised ...................................
84 $
Granted ......................................
(9) $
Canceled ....................................
Outstanding, end of year ................. 453 $
Exercisable, end of year (2) ............. 330 $
467 $
16.33
(70) $
14.67
91 $
27.35
26.73
(33) $
18.45 $ 3,009 455 $
15.77 $ 2,868 400 $
14.12 500 $
(49) $
12.42
71 $
28.21
26.41
(55) $
16.33 467 $
15.57 412 $
14.83
11.16
17.25
27.17
14.12
13.99
(1)
(2)
The aggregate intrinsic value of stock option in the table above represents the total pre-tax intrinsic value (the
amount by which the current market value of the underlying stock exceeds the exercise price of the option) that
would have been received by the option holders had all option holders exercised their options on December 31,
2018. This amount changes based on changes in the market value of the Company's stock.
The weighted average remaining contractual life of stock options outstanding and exercisable on December 31,
2018 was 5.90 years and 4.91 years, respectively.
Information related to stock options during each year follows:
2018
2017
2016
2.85
Weighted-average grant-date fair value per share....... $
Total intrinsic value of stock options exercised .......... $ 988,000 $1,042,000 $ 407,000
55,000 $ 494,000 $ 269,000
Total fair value of stock options vested....................... $
5.94 $
6.13 $
Cash received from the exercise of 77,100 shares was $1,131,000 for the period ended December 31, 2018
with a related tax benefit of $264,000.
The Company is using the Black-Scholes model to value stock options. In accordance with U.S. GAAP,
charges of $373,000, $476,000, and $188,000 are reflected in the Company’s income statements for the
years ended December 31, 2018, 2017, and 2016, respectively, as pre-tax compensation and directors’
expense related to stock options. The related tax benefit of these options is $227,000, $141,000, and
$43,000 for the years ended December 31, 2018, 2017, and 2016, respectively.
Unamortized compensation expense associated with unvested stock options outstanding at December 31,
2018 was $144,000, which will be recognized over a weighted average period of 1.6 years.
14. REGULATORY MATTERS
The Company and the Bank are subject to certain regulatory capital requirements administered by the Board of
Governors of the Federal Reserve System and the FDIC. Capital adequacy guidelines and, additionally for
banks, prompt corrective action regulations, involve quantitative measures of assets, liabilities, and certain off-
balance sheet items calculated under regulatory accounting practices. Capital amounts and classifications are
also subject to qualitative judgements by regulators. Failure to meet capital requirements can initiate regulatory
action. The final rules implementing Basel Committee on Banking Supervision’s capital guidelines for U.S.
banks (Basel III rules) became effective for the Company on January 1, 2015 with full compliance with all of
the requirements being phased in over a multi-year schedule, and fully phased in by January 1, 2019. Under the
Basel III rules, the Company must hold a capital conservation buffer above the adequately capitalized risk-based
capital ratios. The capital conservation buffer is being phased in from 0.0% for 2015 to 2.50% by 2019. The
capital conservation buffer for 2018 is 1.875%. The net unrealized loss on available for sale securities is not
101
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
included in computing regulatory capital. Management believes as of December 31, 2018, the Company and
the Bank meet all capital adequacy requirements to which they are subject.
Prompt corrective action regulations provide five classifications: well capitalized, adequately capitalized,
undercapitalized, significantly undercapitalized, and critically undercapitalized, although these terms are not
used to represent overall financial condition. If adequately capitalized, regulatory approval is required to accept
brokered deposits. If undercapitalized, capital distributions are limited, as is asset growth and expansion, and
capital restoration plans are required. At year-end December 31, 2018 and 2017, notification from the FDIC
categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. There
are no conditions or events since that notification that management believes have changed the Bank’s category.
Actual and required capital amounts (in thousands) and ratios are presented below at year end.
2018
2017
Capital
Amount
Ratio
Capital
Amount
Ratio
Leverage Ratio
Sierra Bancorp and subsidiary ................................... $ 282,484
Minimum requirement for "Well-Capitalized"
institutions.................................................................. 122,962
98,370
Minimum regulatory requirement..............................
11.49% $ 261,987
11.32%
5.0% 115,764
92,611
4.0%
5.0%
4.0%
Bank of the Sierra ...................................................... $ 280,184
Minimum requirement for "Well-Capitalized"
institutions.................................................................. 140,092
98,364
Minimum regulatory requirement
11.39% $ 257,087
11.14%
5.0% 115,399
92,320
4.0%
5.0%
4.0%
102
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
2018
2017
Capital
Amount
Ratio
Capital
Amount
Ratio
Common Equity Tier 1 Capital Ratio
Sierra Bancorp and subsidiary ................................... $ 247,717
Minimum requirements for "Well-Capitalized"
institutions.................................................................. 127,709
88,414
Minimum regulatory requirement..............................
12.61% $ 227,399
12.84%
6.5% 115,149
79,718
4.5%
6.5%
4.5%
Bank of the Sierra ...................................................... $ 280,184
Minimum requirements for "Well-Capitalized"
institutions.................................................................. 127,776
88,461
Minimum regulatory requirement..............................
14.25% $ 257,085
14.51%
6.5% 115,141
79,713
4.5%
6.5%
4.5%
Tier 1 Risk-Based Capital Ratio
Sierra Bancorp and subsidiary ................................... $ 282,484
Minimum requirement for "Well-Capitalized"
institutions.................................................................. 157,181
Minimum regulatory requirement.............................. 117,885
14.38% $ 261,987
14.79%
8.0% 141,722
6.0% 106,291
8.0%
6.0%
Bank of the Sierra ...................................................... $ 280,184
Minimum requirement for "Well-Capitalized"
institutions.................................................................. 157,263
Minimum regulatory requirement.............................. 117,947
14.25% $ 257,085
14.51%
8.0% 141,712
6.0% 106,284
8.0%
6.0%
Total Risk-Based Capital Ratio
Sierra Bancorp and subsidiary ................................... $ 292,618
Minimum requirement for "Well-Capitalized"
institutions.................................................................. 196,476
Minimum regulatory requirement.............................. 157,181
Bank of the Sierra ...................................................... $ 290,318
Minimum requirement for "Well-Capitalized"
institutions.................................................................. 196,579
Minimum regulatory requirement.............................. 157,263
14.89% $ 271,364
15.32%
10.0% 177,152
8.0% 141,722
10.0%
8.0%
14.77% $ 266,463
15.04%
10.0% 177,140
8.0% 141,712
10.0%
8.0%
Under current rules of the Federal Reserve Board, qualified trust preferred securities are one of several
“restricted” core capital elements which may be included in Tier 1 capital in an aggregate amount limited to
25% of all core capital elements, net of goodwill less any associated deferred tax liability. Amounts of restricted
core capital elements in excess of these limits generally may be included in Tier 2 capital. Since the Company
had less than $15 billion in assets at December 31, 2018, under the Dodd-Frank Act the Company will be able
to continue to include its existing trust preferred securities in Tier 1 Capital to the extent permitted by FRB
guidelines.
Dividend Restrictions
The Company’s ability to pay cash dividends is dependent on dividends paid to it by the Bank, and is also
limited by state corporation law. California law allows a California corporation to pay dividends if the
company’s retained earnings equal at least the amount of the proposed dividend plus any preferred dividend
arrears amount. If a California corporation does not have sufficient retained earnings available for the
proposed dividend, it may still pay a dividend to its shareholders if immediately after the dividend the value of
the company’s assets would equal or exceed the sum of its total liabilities plus any preferred dividend arrears
amount.
103
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Dividends from the Bank to the Company are restricted under California law to the lesser of the Bank’s retained
earnings or the Bank’s net income for the latest three fiscal years, less dividends previously declared during that
period, or, with the approval of the Department of Business Oversight, to the greater of the retained earnings of
the Bank, the net income of the Bank for its last fiscal year, or the net income of the Bank for its current fiscal
year. As of December 31, 2018, the maximum amount available for dividend distribution under this restriction
was approximately $30,428,000.
15. BENEFIT PLANS
Salary Continuation Agreements, Directors’ Retirement and Officer Supplemental Life Insurance Plans
The Company has entered into salary continuation agreements with its executive officers, and has established
retirement plans for qualifying members of the Board of Directors. The plans provide for annual benefits for
up to fifteen years after retirement or death. The benefit obligation under these plans totaled $5,229,000 and
$5,150,000 and was fully accrued for the years ended December 31, 2018 and 2017, respectively. The expense
recognized under these arrangements totaled $375,000, $325,000 and $141,000 for the years ended
December 31, 2018, 2017 and 2016, respectively. Salary continuation benefits paid to former directors or
executives of the Company or their beneficiaries totaled $296,000, $254,000 and $275,000 for the years ended
December 31, 2018, 2017 and 2016. Certain officers of the Company have supplemental life insurance policies
with death benefits available to the officers’ beneficiaries.
In connection with these plans the Company has purchased, or acquired through the merger, single premium
life insurance policies with cash surrender values totaling $41,561,000 and $40,588,000 at December 31, 2018
and 2017, respectively.
Officer and Director Deferred Compensation Plan
The Company has established a deferred compensation plan for certain members of the management group and
a deferred fee plan for directors for the purpose of providing the opportunity for participants to defer
compensation. The Company bears the costs for the plan’s administration and the interest earned on participant
deferrals. The related administrative expense was not material for the years ended December 31, 2018, 2017
and 2016. In connection with this plan, life insurance policies with cash surrender values totaling $6,592,000
and $6,520,000 at December 31, 2018 and 2017, respectively, are included on the consolidated balance sheet in
other assets.
401(k) Savings Plan
The 401(k) savings plan (the “Plan”) allows participants to defer, on a pre-tax basis, up to 15% of their salary
(subject to Internal Revenue Service limitations) and accumulate tax-deferred earnings as a retirement fund.
The Bank may make a discretionary contribution to match a specified percentage of the first 6% of the
participants’ contributions annually. The amount of the matching contribution was 75%, for the years ended
December 31, 2018, 2017 and 2016. The matching contribution is discretionary, vests over a period of five
years from the participants’ hire date, and is subject to the approval of the Board of Directors. The Company
contributed $934,000, $745,000, and $623,000 to the Plan in 2018, 2017 and 2016, respectively.
16. NON-INTEREST REVENUE
The major grouping of non-interest revenue on the consolidated income statements includes several specific
items: service charges on deposit accounts, gains on the sale of loans, credit card fees, check card fees, the net
gain (loss) on sales and calls of investment securities available for sale, and the net increase (decrease) in the
cash surrender value of life insurance.
104
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Non-interest revenue also includes one general category of “other income” of which the following are major
components (dollars in thousands):
Year Ended December 31,
2017
2016
2018
Included in other income:
Amortization of limited partnerships .......................... $
Dividends on equity investments ................................
Unrealized gains recognized on equity investments ...
Other............................................................................
Total other non-interest income .................................. $
(2,561) $
961
1,183
3,071
2,654
$
(961) $
761
—
3,651
3,451
$
(944)
1,007
—
3,338
3,401
17. OTHER NON-INTEREST EXPENSE
Other non-interest expense consisted of the following (dollars in thousands):
Year Ended December 31,
2017
2016
2018
Legal, audit and professional....................................... $
Data processing ...........................................................
Advertising and promotional.......................................
Deposit services...........................................................
Stationery and supplies................................................
Telephone and data communication............................
Loan and credit card processing ..................................
Foreclosed assets (income) expense, net .....................
Postage.........................................................................
Other ............................................................................
Assessments.................................................................
Total other non-interest expense ................................. $
$
3,032
5,015
2,748
5,413
1,387
1,479
1,142
(730)
997
1,808
856
23,147
$
3,289 $
4,365
2,514
4,426
1,309
1,654
1,029
270
1,064
1,691
509
22,120 $
2,530
3,607
2,386
3,737
1,425
1,552
635
657
997
1,757
1,141
20,424
18. RELATED PARTY TRANSACTIONS
During the normal course of business, the Bank enters into loans with related parties, including executive
officers and directors. These loans are made with substantially the same terms, including rates and collateral,
as loans to unrelated parties. The following is a summary of the aggregate activity involving related party
borrowers (dollars in thousands):
Year Ended December 31,
2017
2016
2018
Balance, beginning of year.......................................... $
Disbursements .............................................................
Amounts repaid ...........................................................
Balance, end of year .................................................... $
Undisbursed commitments to related parties .............. $
$
3,047
13,873
(14,376)
$
2,544
$
2,130
$
2,253
15,223
(14,429)
$
3,047
$
2,559
2,784
16,939
(17,470)
2,253
2,559
Deposits from related parties held by the Bank at December 31, 2018 and 2017 amounted to $5,069,000 and
$7,742,000, respectively.
105
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
19. FAIR VALUE
Fair value is defined by U.S. GAAP as the exchange price that would be received for an asset or paid to transfer
a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly
transaction between market participants on the measurement date. U.S. GAAP also establishes a fair value
hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of
unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used
to measure fair value:
Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity
has the ability to access as of the measurement date.
Level 2: Significant observable inputs other than Level 1 prices, such as quoted prices for similar
assets or liabilities, quoted prices in markets that are not active, and other inputs that are observable
or can be corroborated by observable market data.
Level 3: Significant unobservable inputs that reflect a company’s own assumptions about the factors
that market participants would use in pricing an asset or liability.
The Company used the following methods and significant assumptions to estimate fair values for each category
of financial asset noted below:
Securities: The fair values of securities available for sale are determined by obtaining quoted prices on
nationally recognized securities exchanges or by matrix pricing, which is a mathematical technique used
widely in the industry to value debt securities by relying on their relationship to other benchmark quoted
securities.
Collateral-dependent impaired loans: A specific loss allowance is created for collateral dependent
impaired loans, representing the difference between the face value of the loan and its current appraised
value less estimated disposition costs.
Foreclosed assets: Repossessed real estate (OREO) and other assets are carried at the lower of cost or fair
value. Fair value is the appraised value less expected selling costs for OREO and some other assets such
as mobile homes, and for all other assets fair value is represented by the estimated sales proceeds as
determined using reasonably available sources. Foreclosed assets for which appraisals can be feasibly
obtained are periodically measured for impairment using updated appraisals. Fair values for other
foreclosed assets are adjusted as necessary, subsequent to a periodic re-evaluation of expected cash flows
and the timing of resolution. If impairment is determined to exist, the book value of a foreclosed asset is
immediately written down to its estimated impaired value through the income statement, thus the carrying
amount is equal to the fair value and there is no valuation allowance.
Assets and liabilities measured at fair value on a recurring basis, including financial liabilities for which the
Company has elected the fair value option, are summarized below (dollars in thousands):
Fair Value Measurements at December 31, 2018, using
Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
Significant
Observable Inputs
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
Total
Realized
Gain/(Loss)
Securities:
U.S. government agencies ...... $
Mortgage-backed securities....
State and political
subdivisions ............................
Total available-for-sale
securities ...........................
$
— $
—
—
15,212 $
404,733
140,534
— $
—
15,212 $
404,733
—
140,534
— $
560,479 $
— $
560,479
$
—
—
—
—
106
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Fair Value Measurements at December 31, 2017, using
Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
Significant
Observable Inputs
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
Total
Realized
Gain/(Loss)
Securities:
U.S. government agencies ...... $
Mortgage-backed securities....
State and political
subdivisions ............................
Total available-for-sale
securities ...........................
$
— $
—
—
21,326 $
393,802
143,201
— $
—
21,326 $
393,802
—
143,201
- $
558,329 $
— $
558,329
$
—
—
—
—
Assets and liabilities measured at fair market value on a non-recurring basis are summarized below (dollars in
thousands):
Year Ended December 31, 2018
Collateral dependent impaired loans ....................... $
Foreclosed assets ..................................................... $
— $
— $
205 $
1,082 $
Year Ended December 31, 2017
Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
Significant
Observable Inputs
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
Significant
Observable Inputs
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
Total
— $ 205
— $1,082
Total
— $ 377
— $5,481
Collateral dependent impaired loans ....................... $
Foreclosed assets ..................................................... $
— $
— $
377 $
5,481 $
20. DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
Disclosures include estimated fair values for financial instruments for which it is practicable to estimate fair
value. These estimates are made at a specific point in time based on relevant market data and information about
the financial instruments. These estimates do not reflect any premium or discount that could result from offering
the Company’s entire holdings of a particular financial instrument for sale at one time, nor do they attempt to
estimate the value of anticipated future business related to the instruments. In addition, the tax ramifications
related to the realization of unrealized gains and losses can have a significant effect on fair value estimates and
have not been considered in any of these estimates.
Because no market exists for a significant portion of the Company’s financial instruments, fair value estimates
are based on judgments regarding current economic conditions, risk characteristics of various financial
instruments and other factors. These estimates are subjective in nature and involve uncertainties and matters of
significant judgment and therefore cannot be determined with precision. Changes in assumptions could
significantly affect the fair values presented. The following methods and assumptions were used by the
Company to estimate the fair value of its financial instruments at December 31, 2018 and 2017:
Cash and cash equivalents, and fed funds sold: For cash and cash equivalents and fed funds sold, the carrying
amount is estimated to be fair value.
Securities: The fair values of investment securities are determined by obtaining quoted prices on nationally
recognized securities exchanges or by matrix pricing, which is a mathematical technique used widely in the
industry to value debt securities by relying on their relationship to other benchmark quoted securities when
quoted prices for specific securities are not readily available.
107
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Loans and leases: Fair values of loans, excluding loans held for sale, are based on the exit price notion set forth
by ASU 2016-01 effective January 1, 2018 and estimated using discounted cash flow analyses. The estimation
of fair values of loans results in a Level 3 classification as it requires various assumptions and considerable
judgement to incorporate factors relevant when selling loans to market participants, such as funding costs, return
requirements of likely buyers and performance expectations of the loans given the current market environment
and quality of loans. Estimated fair value of loans carried at cost at December 31, 2017 were based on an entry
price notion.
Loans held for sale: Since loans designated by the Company as available-for-sale are typically sold shortly after
making the decision to sell them, realized gains or losses are usually recognized within the same period and
fluctuations in fair values are thus not relevant for reporting purposes. If available-for-sale loans stay on our
books for an extended period of time, the fair value of those loans is determined using quoted secondary-market
prices.
Deposits: Fair values for non-maturity deposits are equal to the amount payable on demand at the reporting
date, which is the carrying amount. Fair values for fixed-rate certificates of deposit are estimated using a cash
flow analysis, discounted at interest rates being offered at each reporting date by the Bank for certificates with
similar remaining maturities.
Short-term borrowings: The carrying amounts approximate fair values for federal funds purchased, overnight
FHLB advances, borrowings under repurchase agreements, and other short-term borrowings maturing within
ninety days of the reporting dates. Fair values of other short-term borrowings are estimated by discounting
projected cash flows at the Company’s current incremental borrowing rates for similar types of borrowing
arrangements.
Long-term borrowings: The fair values of the Company’s long-term borrowings are estimated using projected
cash flows discounted at the Company’s current incremental borrowing rates for similar types of borrowing
arrangements.
Subordinated debentures: The fair values of subordinated debentures are determined based on the current
market value for like instruments of a similar maturity and structure.
108
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Carrying amount and estimated fair values of financial instruments were as follows (dollars in thousands):
Year Ended December 31, 2018
Estimated Fair Value
Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
Significant
Observable Inputs
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
Carrying
Amount
Total
Financial Assets:
74,132 $
Cash and cash equivalents ................... $
Securities available for sale .................
560,479
Loans and leases held for investment.. 1,724,575
205
Collateral dependent impaired loans ...
74,132 $
—
—
—
— $
560,479
1,707,463
205
74,132
— $
—
560,479
— 1,707,463
205
—
Financial Liabilities:
Deposits:
662,527 $
Non-interest-bearing ...................... $
Interest-bearing .............................. 1,453,813
662,527 $
—
— $
1,453,048
662,527
— $
— 1,453,048
Fed funds purchased and repurchase
agreements...........................................
Short-term borrowings.........................
Subordinated debentures .....................
16,359
56,100
34,767
—
—
—
16,359
56,100
30,311
—
—
—
16,359
56,100
30,311
Off-balance-sheet financial instruments:
Commitments to extend credit................................... $ 781,987
8,966
Standby letters of credit .............................................
Notional
Amount
Carrying amount and estimated fair values of financial instruments were as follows (dollars in thousands):
Year Ended December 31, 2017
Estimated Fair Value
Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
Significant
Observable Inputs
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
Carrying
Amount
Total
Financial Assets:
70,137 $
Cash and cash equivalents ................... $
558,329
Securities available for sale .................
Loans and leases held for investment.. 1,551,174
377
Collateral dependent impaired loans ...
70,137 $
—
—
—
— $
558,329
1,563,765
377
70,137
— $
558,329
—
— 1,563,765
377
—
Financial Liabilities:
Deposits:
Noninterest-bearing........................ $
635,434 $
Interest-bearing .............................. 1,352,952
635,434 $
—
— $
1,352,952
— $
635,434
— 1,352,952
Fed funds purchased and repurchase
agreements...........................................
Short-term borrowings.........................
Subordinated debentures .....................
8,150
21,900
34,588
—
—
—
8,150
21,900
24,216
—
—
—
8,150
21,900
24,216
109
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Off-balance-sheet financial instruments:
Commitments to extend credit .................................. $ 691,712
Standby letters of credit.............................................
9,168
Notional
Amount
21. BUSINESS COMBINATIONS
On October 1, 2017, the Company acquired 100% of the outstanding common shares of Ojai Community
Bancorp (OCB) in exchange for $809,000 in cash and 1,376,431 shares of stock. OCB results of operations
were included in the Company’s results beginning October 1, 2017. Acquisition related costs of $41,000 and
$2,169,000 are included in other operating expense in the Company’s income statement for the years ended
December 31, 2018 and 2017.
In accordance with GAAP, the Company recorded $18,464,000 of goodwill and $3,453,000 of core deposit
intangibles. Goodwill represents the excess of the consideration transferred (cash) at the acquisition date over
the fair values of the identifiable net assets acquired. The core deposit intangible is being amortized using a
straight line basis over eight years. For tax purposes goodwill and core deposit intangibles are both non-
deductible.
The acquisition has provided the Company an opportunity to expand its market presence further in Ventura
County and into Santa Barbara. Synergies and cost savings resulting from the combined operations along with
the introduction of the Company’s existing products and services into the new region have provided growth
opportunities and the potential to increase profitability.
The following table summarizes the consideration paid for OCB and the amounts of the assets acquired and
liabilities assumed recognized at the acquisition date (dollars in thousands):
Consideration
Cash ................................................................................................................... $
Equity Instruments.............................................................................................
Fair value of total consideration transferred ...................................................... $
809
37,370
38,179
110
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Recognized amounts of identifiable assets acquired and liabilities assumed
Cash and cash equivalents ................................................................................ $
Securities ..........................................................................................................
Federal Home Loan Bank stock .......................................................................
Loans ................................................................................................................
Premises and equipment...................................................................................
Real estate owned.............................................................................................
Core deposit intangibles ...................................................................................
Other assets.......................................................................................................
Total assets acquired ...................................................................................
Deposits ............................................................................................................
Borrowed funds ................................................................................................
Other liabilities .................................................................................................
Total liabilities assumed .............................................................................
Total identifiable net assets ...................................................................
Goodwill ................................................................................................................
$
37,108
5,492
—
217,800
873
3,072
3,453
10,479
278,277
230,950
24,400
3,212
258,562
19,715
18,464
38,179
On November 3, 2017, the Company acquired certain deposits of the Woodlake branch of Citizen’s Business
Bank (CBB). Results of operations were included in the Company’s results beginning November 3, 2017.
Acquisition related costs of $2,000 and $47,000 are included in other operating expense in the Company’s
income statement for the years ended December 31, 2018 and 2017.
In accordance with GAAP, the Company recorded $625,000 of goodwill and $486,000 of core deposit
intangibles. Goodwill represents the excess of the consideration transferred (cash) at the acquisition date over
the fair values of the identifiable net assets acquired. The core deposit intangible is being amortized using a
straight line basis over eight years. For tax purposes goodwill and core deposit intangibles are both non-
deductible.
The acquisition has provided the Company an opportunity to expand its market presence in Tulare County.
Synergies and cost savings resulting from the combined operations along with the introduction of the
Company’s existing products and services into the new region have provided growth opportunities and the
potential to increase profitability.
The following table summarizes the amounts of the assets acquired and liabilities assumed recognized at the
acquisition date (dollars in thousands):
Consideration
Cash .......................................................................................................... $
Equity instruments....................................................................................
Fair value of total consideration transferred .................................................. $
—
—
—
111
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Recognized amounts of identifiable assets acquired and liabilities
assumed
Cash and cash equivalents ....................................................................... $
Loans........................................................................................................
Premises and equipment ..........................................................................
Core deposit intangibles...........................................................................
Total assets acquired ..........................................................................
Deposits ...................................................................................................
Other liabilities ........................................................................................
Total liabilities assumed.....................................................................
Total identifiable net assets...........................................................
Goodwill........................................................................................................
$
25,266
7
469
486
26,228
26,661
192
26,853
(625)
625
—
112
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
On July 8, 2016, the Company acquired 100% of the outstanding common shares of Coast National Bancorp (CNB)
in exchange for $3,280,000 in cash and 599,226 shares of stock. CNB results of operations were included in the
Company’s results beginning July 9, 2016. Acquisition related costs of $9,000 and $2,411,000 are included in other
operating expense in the Company’s income statement for the years ended December 31, 2017 and 2016.
In accordance with GAAP, the Company recorded $1,360,000 of goodwill and $1,827,000 of core deposit
intangibles. Goodwill represents the excess of the consideration transferred (cash) at the acquisition date over the
fair values of the identifiable net assets acquired. The core deposit intangible is being amortized using a straight line
basis over eight years. For tax purposes goodwill and core deposit intangibles are both non-deductible.
The acquisition has provided the Company an opportunity to expand its market presence further west into the Central
California Coast. Synergies and cost savings resulting from the combined operations along with the introduction of
the Company’s existing products and services into the new region have provided growth opportunities and the
potential to increase profitability.
The following table summarizes the consideration paid for CNB ts acquired and liabilities
assumed recognized at the acquisition date (dollars in thousands):
Consideration
Cash................................................................................................................... $
Equity Instruments ............................................................................................
Fair value of total consideration transferred........................................................... $
3,280
10,205
13,485
Recognized amounts of identifiable assets acquired and liabilities assumed
Cash and cash equivalents......................................................................... $
Securities ...................................................................................................
Federal Home Loan Bank stock ................................................................
Federal Reserve Bank stock ......................................................................
Loans .........................................................................................................
Premises and equipment............................................................................
Core deposit intangibles ............................................................................
Other assets ...............................................................................................
Total assets acquired............................................................................
Deposits.....................................................................................................
Trust preferred securities...........................................................................
Other liabilities..........................................................................................
Total liabilities assumed ......................................................................
Total identifiable net assets ............................................................
Goodwill .........................................................................................................
$
18,931
23,363
561
496
94,264
5,844
1,827
2,504
147,790
129,038
3,422
3,205
135,665
12,125
1,360
13,485
In many cases, the fair values of assets acquired and liabilities assumed were determined by estimating the cash
flows expected to result from those assets and liabilities and discounting them at appropriate market rates. The
most significant category of assets for which this procedure was used was that of acquired loans. The excess of
expected cash flows above the fair value of the majority of loans will be accreted to interest income over the
remaining lives of the loans in accordance with FASB Accounting Standards Codification (ASC) 310-20
(formerly SFAS 91). The Company believes that all contractual cash flows related to these loans will be
collected. As such, these loans were not considered impaired at the acquisition date and were not subject to the
guidance relating to purchased credit impaired loans, which have shown evidence of credit deterioration since
origination. Loans acquired from OCB that were not subject to these requirements had a fair value and gross
contractual amounts receivable of $217,800,000 and $223,036,000, as of the date of acquisition.
113
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Certain loans, for which specific credit-related deterioration, since origination, was identified, are recorded at
fair value, reflecting the present value of the amounts expected to be collected. Income recognition on these
“purchased credit-impaired” loans is based on a reasonable expectation about the timing and amount of cash
flows to be collected. Acquired loans deemed impaired and considered collateral dependent, with the timing of
the sale of loan collateral indeterminate, remain on non-accrual status and have no accretable yield. These loans
are discussed in further detail in Note 4 Purchased Credit Impaired Loans.
In accordance with GAAP, there was no carryover of the allowance for loan losses that had been previously
recorded by OCB.
The Company recorded a deferred income tax asset of $741,000 for OCB. The deferred income tax asset was
related to net operating loss carry-forward, as well as other tax attributes of OCB, along with the effects of fair
value adjustments resulting from applying the acquisition method of accounting.
The fair value of savings and transaction deposit accounts acquired from OCB were assumed to approximate
their carry value, as these accounts have no stated maturity and are payable on demand.
The operating results of the Company for the twelve months ending December 31, 2018, 2017 and 2016 include
the operating results of OCB since their respective acquisition dates. The following table presents the net
interest and other income, basic earnings per share and diluted earnings per share as if the acquisition with OCB
was effective as of January 1, 2018, 2017 and 2016 for the respective year in which the acquisition was closed.
The unaudited pro forma information in the following table is intended for informational purposes only and is
not necessarily indicative of our future operating results for operating results that would have occurred had the
mergers been completed at the beginning of each respective year. No assumptions have been applied to the pro
forma results of operations regarding possible revenue enhancements, expense efficiencies or asset dispositions.
Unaudited pro forma net interest income, net income and earnings per share presented below (dollars in
thousands, except per share data):
Pro Forma
Year Ended
2018
Pro Forma
Year Ended
2017
Pro Forma
Year Ended
2016
Net interest income ............................. $
Net income .......................................... $
Basic earnings per share...................... $
Diluted earnings per share .................. $
92,394 $
29,677 $
1.94 $
1.92 $
82,985 $
19,416 $
1.37 $
1.35 $
65,182
17,567
1.30
1.29
114
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
22. QUALIFIED AFFORDABLE HOUSING PROJECT INVESTMENTS
The Company invests in qualified affordable housing projects. At December 31, 2018 and 2017, the balance of
the investment for qualified affordable housing projects totaled $5,905,000 and $8,440,000, respectively. These
balances are reflected in the other assets line on the consolidated balance sheet. Unfunded commitments related
to these investments in qualified affordable housing projects totaled $1,958,000 and $3,321,000 at December
31, 2018 and 2017, respectively.
During the years ended December 31, 2018, 2017 and 2016, the Company recognized amortization expense on
these investments of $2,535,000, $961,000, and $944,000, respectively which was included within pretax
income on the consolidated statements of income.
Additionally, during the years ended December 31, 2018 and 2017, the Company recognized tax credits and
other benefits from its investment in affordable housing tax credits of $632,000 and $711,000, respectively.
The Company had no impairment losses during the years ended December 31, 2018 and 2017.
23. REVENUE FROM CONTRACTS WITH CUSTOMERS
All of the Company’s revenue from contracts with customers in the scope of ASC 606 is recognized within
Non-interest Income. The following table presents the Company’s sources of Non-interest Income for the
twelve months ended December 31, 2018 and 2017. Items outside the scope of ASC 606 are noted as such.
Non-interest income
Service charges on deposits
Returned item and overdraft fees ............................................... $
Other service charges on deposits ..............................................
Debit card interchange income ........................................................
Loss on limited partnerships(1).........................................................
Dividends on equity investments(1)..................................................
Unrealized gains recognized on equity investments(1) ....................
Net gains (losses) on sale of securities(1) .........................................
Other(1) .............................................................................................
Total non-interest income..................................................... $
Year Ended December 31,
2018
2017
6,574 $
5,865
5,878
(2,561)
961
1,183
2
3,662
21,564 $
6,406
4,824
4,955
(961)
761
—
500
5,294
21,779
(1)
Not within the scope of ASC 606. Revenue streams are not related to contracts with customers and are accounted for on an accrual
basis under other provisions of GAAP.
115
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
24. PARENT ONLY CONDENSED FINANCIAL STATEMENTS
BALANCE SHEETS
Years Ended December 31, 2018 and 2017
(dollars in thousands)
ASSETS
Cash and due from banks ..................................................................... $
Investments in bank subsidiary ............................................................
Investment in trust subsidiaries ............................................................
Other assets ..........................................................................................
$
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Other liabilities ............................................................................... $
Subordinated debentures.................................................................
Total liabilities...........................................................................
Shareholders' equity:
Common stock ................................................................................
Retained earnings............................................................................
Accumulated other comprehensive income, net of taxes ...............
Total shareholders' equity..........................................................
$
2018
2017
2,338 $
305,492
1,145
20
308,995 $
1,204 $
34,767
35,971
115,573
164,117
(6,666)
273,024
308,995 $
4,908
285,629
1,145
24
291,706
1,176
34,588
35,764
114,075
144,197
(2,330)
255,942
291,706
116
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
STATEMENTS OF INCOME
Years Ended December 31, 2018, 2017 and 2016
(dollars in thousands)
Income:
Dividend from subsidiary ............................................................ $
Gain on sale of securities.............................................................
Other operating income ...............................................................
Total income...........................................................................
Expense
Salaries and employee benefits....................................................
Other expenses.............................................................................
Total expenses........................................................................
Income before income taxes...................................................
Income tax benefit.............................................................................
Income before equity in undistributed income of subsidiary ......
Equity in undistributed income of subsidiary ...................................
Net income ............................................................................. $
2018
2017
2016
7,750 $
—
—
7,750
516
2,533
3,049
4,701
(1,150)
5,851
23,826
29,677 $
15,500 $
918
16
16,434
481
2,276
2,757
13,677
(1,602)
15,279
4,260
19,539 $
16,500
58
3
16,561
404
1,857
2,261
14,300
(926)
15,226
2,341
17,567
117
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
STATEMENTS OF CASH FLOWS
Years Ended December 31, 2018, 2017 and 2016
(dollars in thousands)
2018
2017
2016
29,677 $
19,539 $
17,567
Cash flows from operating activities:
Net income ...................................................................... $
Adjustments to reconcile net income to net cash
provided by operating activities:
Undistributed net loss of subsidiary ................................
Gain on sale of securities ................................................
Increase (decrease) in other assets ..................................
(Decrease) increase in other liabilities ............................
Net cash provided for operating activities .................
(23,826)
—
182
28
6,061
Cash flows from investing activities:
Sales of securities ............................................................
Cash paid from acquisitions, net .....................................
Net cash provided by investing activities ..................
—
(6)
(6)
Cash flows from financing activities:
Change in other borrowings ............................................
Stock options exercised...................................................
Repurchase of common stock .........................................
Dividends paid ................................................................
Net cash used in by financing activities ....................
Net decrease (increase) in cash and cash equivalents...........
Cash and cash equivalents, beginning of year ......................
Cash and cash equivalents, end of year ................................ $
—
1,131
—
(9,756)
(8,625)
(2,570)
4,908
2,338 $
(4,260)
(918)
170
(757)
13,774
1,480
(7,061)
(5,581)
—
764
—
(7,935)
(7,171)
1,022
3,886
4,908 $
(2,341)
(58)
(220)
20
14,968
170
(2,994)
(2,824)
(2,365)
649
(2,258)
(6,506)
(10,480)
1,664
2,222
3,886
25. CONDENSED QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
The following table sets forth the Company’s unaudited results of operations for the four quarters of 2017 and 2016.
In management’s opinion, the results of operations reflect all adjustments (which include only recurring adjustments)
necessary to present fairly the condensed results for such periods (dollars in thousands, except per share data).
December 31,
September 30,
June 30,
March 31,
2018 Quarter Ended
Interest income .......................... $
Interest expense .........................
Net interest income....................
Provision for loan and lease
losses..........................................
Non-interest income ..................
Non-interest expense .................
Net income before taxes ............
Provision for taxes.....................
Net income................................. $
27,042 $
2,984
24,058
1,400
5,279
17,036
10,901
2,997
7,904 $
26,236 $
2,460
23,776
2,450
5,723
17,807
9,242
2,171
7,071 $
24,883 $
2,083
22,800
300
5,429
17,294
10,635
2,643
7,992 $
Diluted earnings per share ......... $
Cash dividend per share............. $
.51 $
.16 $
.46 $
.16 $
.52 $
.16 $
23,476
1,716
21,760
200
5,133
17,887
8,806
2,096
6,710
.44
.16
118
SIERRA BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
December 31,
September 30,
June 30,
March 31,
2017 Quarter Ended
Interest income .......................... $
Interest expense .........................
Net interest income....................
Provision for loan and lease
losses..........................................
Non-interest income ..................
Non-interest expense .................
Net income before taxes ............
Provision for taxes.....................
Net income................................. $
24,134 $
1,592
22,542
(1,440)
5,371
19,203
10,150
6,106
4,044 $
19,832 $
1,397
18,435
—
5,910
15,445
8,900
3,158
5,742 $
19,055 $
1,215
17,840
300
5,364
15,091
7,813
2,611
5,202 $
Diluted earnings per share ......... $
Cash dividend per share............. $
.26 $
.14 $
.41 $
.14 $
.37 $
.14 $
17,903
1,019
16,884
—
5,134
15,702
6,316
1,765
4,551
.32
.14
119
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
ITEM 9A. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
The Company’s Chief Executive Officer and its Chief Financial Officer, after evaluating the effectiveness of the Com-
pany’s disclosure controls and procedures (as defined in Exchange Act Rules 13(a)–15(e) as of the end of the period
covered by this report (the “Evaluation Date”) have concluded that as of the Evaluation Date, the Company’s
disclosure controls and procedures were adequate and effective to ensure that material information relating to the
Company and its consolidated subsidiaries would be made known to them by others within those entities, particularly
during the period in which this annual report was being prepared.
Disclosure controls and procedures are designed to ensure that information required to be disclosed by us in the reports
that we file or submit under the Exchange Act is accumulated and communicated to our Management, including our
Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required
disclosure, and that such information is recorded, processed, summarized, and reported within the time periods
specified by the SEC.
Management’s Report on Internal Control over Financial Reporting
Management of the Company is responsible for the preparation, integrity, and reliability of the consolidated financial
statements and related financial information contained in this annual report. The consolidated financial statements of
the Company have been prepared in accordance with accounting principles generally accepted in the United States of
America and, as such, include some amounts that are based on judgments and estimates of Management.
Management has established and is responsible for maintaining effective internal control over financial reporting. The
Company’s internal control over financial reporting includes those policies and procedures that:
(i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions
and dispositions of the assets of the Company;
(ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial
statements in accordance with generally accepted accounting principles, and that receipts and expenditures
of the Company are being made only in accordance with authorizations of Management and directors of the
Company; and
(iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or
disposition of the Company’s assets that could have a material effect on the financial statements.
There are inherent limitations in the effectiveness of any internal control, including the possibility of human error and
the circumvention or overriding of controls. Accordingly, even effective internal control can provide only reasonable
assurance with respect to financial statement preparation. Further, because of changes in conditions, the effectiveness
of internal control may vary over time. The system contains monitoring mechanisms, and actions are taken to correct
deficiencies identified.
Management assessed the effectiveness of the Company’s internal control over financial reporting as of December 31,
2018. This assessment was based on criteria established in Internal Control – Integrated Framework (2013) issued by
the Committee of Sponsoring Organizations of the Treadway Commission. This assessment included controls over
the preparation of regulatory financial statements in accordance with the Federal Financial Institutions Examination
Council’s Instructions for Preparation of Consolidated Reports of Condition and Income, and in accordance with the
Board of Governors of the Federal Reserve System’s Instructions for Preparation of Financial Statements for Bank
Holding Companies (Consolidated and Parent Company Only). Based on this assessment, Management believes that
the Company maintained effective internal control over financial reporting as of December 31, 2018.
120
Management is responsible for compliance with the federal and state laws and regulations concerning dividend
restrictions and federal laws and regulations concerning loans to insiders designated by the FDIC as safety and sound-
ness laws and regulations. Management assessed compliance by the Company’s insured financial institution, Bank
of the Sierra, with the designated laws and regulations relating to safety and soundness. Based on this assessment,
Management believes that Bank of the Sierra complied, in all significant respects, with the designated laws and regula-
tions related to safety and soundness for the year ended December 31, 2018.
Our assessment of the effectiveness of the Company’s internal control over financial reporting as of December 31,
2018 has been audited by Vavrinek, Trine, Day & Co., LLP, an independent registered public accounting firm, as
stated in their report appearing above in Item 8, Financial Statements and Supplementary Data.
Changes in Internal Control
There were no significant changes in the Company’s internal control over financial reporting or in other factors in the
fourth quarter of 2018 that have materially affected, or are reasonably likely to materially affect, the Company’s
internal control over financial reporting.
ITEM 9B. OTHER INFORMATION.
None.
PART III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The information required to be furnished pursuant to this item with respect to Directors and Executive Officers of the
Company will be set forth under the caption “Election of Directors” in the Company’s proxy statement for the 2019
Annual Meeting of Shareholders (the “Proxy Statement”), which the Company will file with the SEC within 120 days
after the close of the Company’s 2018 fiscal year in accordance with SEC Regulation 14A under the Securities
Exchange Act of 1934. Such information is hereby incorporated by reference.
The information required to be furnished pursuant to this item with respect to compliance with Section 16(a) of the
Exchange Act will be set forth under the caption “Section 16(a) Beneficial Ownership Reporting Compliance” in the
Proxy Statement, and is incorporated herein by reference.
The information required to be furnished pursuant to this item with respect to the Company’s Code of Ethics and
corporate governance matters will be set forth under the caption “Corporate Governance” in the Proxy Statement, and
is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information required to be furnished pursuant to this item will be set forth under the captions “Executive Officer
and Director Compensation” and “Compensation Discussion and Analysis” in the Proxy Statement, and is incorpo-
rated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED SHAREHOLDER MATTERS
Securities Authorized for Issuance under Equity Compensation Plans
The information required by Item 12 with respect to securities authorized for issuance under equity compensation
plans is set forth under “Item 5 – Market for Registrant’s Common Equity and Issuer Repurchases of Equity Securi-
ties” above.
121
Other Information Concerning Security Ownership of Certain Beneficial Owners and Management
The remainder of the information required by Item 12 will be set forth under the captions “Security Ownership of
Certain Beneficial Owners and Management” and “Election of Directors” in the Proxy Statement, and is incorporated
herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS AND DIRECTOR
INDEPENDENCE
The information required to be furnished pursuant to this item will be set forth under the captions “Related Party
Transactions” and “Corporate Governance – Director Independence” in the Proxy Statement, and is incorporated
herein by reference.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
The information required to be furnished pursuant to this item will be set forth under the caption “Ratification of
Appointment of Independent Registered Public Accounting Firm – Fees” in the Proxy Statement, and is incorporated
herein by reference.
122
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) Exhibits
PART IV
Exhibit # Description
2.1
2.2
2.3
3.1
3.2
10.1
10.2
10.3
10.4
10.5
10.6
10.7
10.8
10.9
10.10
10.11
10.12
10.13
10.14
10.15
10.16
10.17
10.18
10.19
10.20
Agreement and Plan of Consolidation by and among Sierra Bancorp, Bank of the Sierra and Santa Clara Valley Bank, N.A., dated as
of July 17, 2014 (1)
Agreement and Plan of Reorganization and Merger, dated January 4, 2016 by and between Sierra Bancorp and Coast Bancorp (2)
Agreement and Plan of Reorganization and Merger, dated as of April 24, 2017 by and between Sierra Bancorp and OCB Bancorp, as
amended by Amendment No. 1 thereto dated May 4, 2017 and Amendment No. 2 thereto dated June 6, 2017 (3)
Restated Articles of Incorporation of Sierra Bancorp (4)
Amended and Restated By-laws of the Company (5)
Salary Continuation Agreement for Kenneth R. Taylor (6)
Salary Continuation Agreement and Split Dollar Agreement for James F. Gardunio (7)
Split Dollar Agreement for Kenneth R. Taylor (8)
Director Retirement and Split dollar Agreements Effective October 1, 2002, for Albert Berra, Morris Tharp, and Gordon Woods (8)
401 Plus Non-Qualified Deferred Compensation Plan (8)
Indenture dated as of March 17, 2004 between U.S. Bank N.A., as Trustee, and Sierra Bancorp, as Issuer (9)
Amended and Restated Declaration of Trust of Sierra Statutory Trust II, dated as of March 17, 2004 (9)
Indenture dated as of June 15, 2006 between Wilmington Trust Co., as Trustee, and Sierra Bancorp, as Issuer (10)
Amended and Restated Declaration of Trust of Sierra Capital Trust III, dated as of June 15, 2006 (10)
2007 Stock Incentive Plan (11)
Sample Retirement Agreement Entered into with Each Non-Employee Director Effective January 1, 2007 (12)
Salary Continuation Agreement for Kevin J. McPhaill (12)
First Amendment to the Salary Continuation Agreement for Kenneth R. Taylor (12)
Second Amendment to the Salary Continuation Agreement for Kenneth R. Taylor (13)
First Amendment to the Salary Continuation Agreement for Kevin J. McPhaill (14)
Indenture dated as of September 20, 2007 between Wilmington Trust Co., as Trustee, and Coast Bancorp, as Issuer (15)
Amended and Restated Declaration of Trust of Coast Bancorp Statutory Trust II, dated as of September 20, 2007 (15)
First Supplemental Indenture dated as of July 8, 2016, between Wilmington Trust Co. as Trustee, Sierra Bancorp as the “Successor
Company”, and Coast Bancorp (15)
2017 Stock Incentive Plan (16)
Employment agreements dated as of December 27, 2018 for Kevin McPhaill, CEO, Kenneth Taylor, CFO, James Gardunio, Chief
Credit Officer, and Michael Olague, Chief Banking Officer (17)
Statement of Computation of Per Share Earnings (18)
Subsidiaries of Sierra Bancorp
Consent of Vavrinek, Trine, Day & Co., LLP
Certification of Chief Executive Officer (Section 302 Certification)
Certification of Chief Financial Officer (Section 302 Certification)
Certification of Periodic Financial Report (Section 906 Certification)
11
21
23
31.1
31.2
32
101.INS XBRL Instance Document
101.SCH XBRL Taxonomy Extension Schema Document
101.CAL XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF XBRL Taxonomy Extension Definition Linkbase Document
101.LAB XBRL Taxonomy Extension Label Linkbase Document
101.PRE XBRL Taxonomy Extension Presentation Linkbase Document
(1)
(2)
(3)
(4)
(5)
(6)
(7)
(8)
(9)
(10)
(11)
(12)
(13)
(14)
(15)
(16)
(17)
(18)
Filed as an Exhibit to the Form 8-K filed with the SEC on July 18, 2014 and incorporated herein by reference.
Filed as an Exhibit to the Form 8-K filed with the SEC on January 5, 2016 and incorporated herein by reference.
Original agreement filed as an exhibit to the Form 8-K filed with the SEC on April 25, 2017 and incorporated herein by reference, and
amendments thereto filed as appendices to the proxy statement/prospectus included in the Form S-4/A filed with the SEC on July 24,
2017 and incorporated herein by reference.
Filed as Exhibit 3.1 to the Form 10-Q filed with the SEC on August 7, 2009 and incorporated herein by reference.
Filed as an Exhibit to the Form 8-K filed with the SEC on February 21, 2007 and incorporated herein by reference.
Filed as Exhibit 10.5 to the Form 10-Q filed with the SEC on May 15, 2003 and incorporated herein by reference.
Filed as an Exhibit to the Form 8-K filed with the SEC on August 11, 2005 and incorporated herein by reference.
Filed as Exhibits 10.10, 10.18 through 10.20, and 10.22 to the Form 10-K filed with the SEC on March 15, 2006 and incorporated
herein by reference.
Filed as Exhibits 10.9 and 10.10 to the Form 10-Q filed with the SEC on May 14, 2004 and incorporated herein by reference.
Filed as Exhibits 10.26 and 10.27 to the Form 10-Q filed with the SEC on August 9, 2006 and incorporated herein by reference.
Filed as Exhibit 10.20 to the Form 10-K filed with the SEC on March 15, 2007 and incorporated herein by reference.
Filed as Exhibits 10.1 through 10.3 to the Form 8-K filed with the SEC on January 8, 2007 and incorporated herein by reference.
Filed as Exhibit 10.23 to the Form 10-K filed with the SEC on March 13, 2014 and incorporated herein by reference.
Filed as Exhibit 10.24 to the Form 10-Q filed with the SEC on May 7, 2015 and incorporated herein by reference.
Filed as Exhibits 10.1 through 10.3 to the Form 8-K filed with the SEC on July 11, 2016 and incorporated herein by reference.
Filed as Exhibit 10.1 to the Form 8-K filed with the SEC on March 17, 2017 and incorporated herein by reference.
Filed as Exhibits 99.1 through 99.4 to the Form 8-K filed with the SEC on December 28, 2018 and incorporated by reference.
Computation of earnings per share is incorporated by reference to Note 6 to the Financial Statements included herein.
123
(b) Financial Statement Schedules
Schedules to the financial statements are omitted because the required information is not applicable or because the
required information is presented in the Company’s Consolidated Financial Statements or related notes.
ITEM 16. FORM 10-K SUMMARY
Not Applicable.
124
Pursuant to the requirements of Section 13 or 15(d) of the Securities and Exchange Act of 1934, the Registrant has
duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
SIGNATURES
Dated: March 14, 2019
SIERRA BANCORP,
a California corporation
By: /s/ Kevin J. McPhaill
Kevin J. McPhaill
President &
Chief Executive Officer
(Principal Executive Officer)
By: /s/ Kenneth R. Taylor
Kenneth R. Taylor
Executive Vice President &
Chief Financial Officer
(Principal Financial and Principal Accounting Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on the dates indicated.
Signature
Title
/s/ Albert L. Berra
Albert L. Berra
/s/ Vonn R. Christenson
Vonn R. Christenson
/s/ Laurence S. Dutto, PhD
Laurence S. Dutto, PhD
/s/ Robb Evans
Robb Evans
/s/ James C. Holly
James C. Holly
/s/ Kevin J. McPhaill
Kevin J. McPhaill
/s/ Lynda B. Scearcy
Lynda B. Scearcy
/s/ Morris A. Tharp
Morris A. Tharp
/s/ Gordon T. Woods
Gordon T. Woods
/s/ Kenneth R. Taylor
Kenneth R. Taylor
Director
Director
Director
Director
Date
March 14, 2019
March 14, 2019
March 14, 2019
March 14, 2019
Vice Chairman of the Board
March 14, 2019
President, Chief Executive
Officer & Director
(Principal Executive Officer)
Director
March 14, 2019
March 14, 2019
Chairman of the Board
March 14, 2019
Director
Executive Vice President &
Chief Financial Officer
(Principal Financial and
Principal Accounting Officer)
March 14, 2019
March 14, 2019
125
2018 ANNUAL REPORT CONTENTS
1 Company Statements / Branch Locations
3 President’s Message
4 Board of Directors / Executive Officers
5 About Sierra Bancorp
6 About Bank of the Sierra
8 Results of Operations
10 Financial Condition
12 Senior Management Team / Administrative Officers
A copy of the Company’s 2018 Annual Report Form 10-K, including financial
statements but without exhibits filed with the Securities and Exchange
Commission, is enclosed herewith. Quarterly financial reports and other
news releases may also be obtained by visiting: SierraBancorp.com.
2018